Practice Regulation (REG) questions for the Certified Public Accountant Exam. Every question includes a full explanation of why the correct answer is right and why the tempting distractors are wrong.
10 example questions with full explanations. Use the interactive practice above to work through the complete set.
Question 1medium
Marcus and Elena file a joint return for the current tax year. They received the following items: $4,200 in municipal bond interest, $3,500 in qualified dividends, $8,000 life insurance proceeds from a policy on Marcus's deceased uncle (Marcus was the beneficiary), and $1,200 in gambling winnings. Select all that apply — which of the following items must be included in their gross income?
- A.$4,200 municipal bond interest
- B.$3,500 qualified dividends✓
- C.$8,000 life insurance proceeds
- D.$1,200 gambling winnings✓
Correct answer: B, D
Qualified dividends ($3,500) and gambling winnings ($1,200) are both fully includible in gross income. Municipal bond interest ($4,200) is explicitly excluded from gross income under IRC §103, regardless of the amount. Life insurance proceeds ($8,000) received by a named beneficiary due to the death of the insured are excluded from gross income under IRC §101(a). Therefore, only options B and D are correctly included in gross income.
Question 2medium
Thornberry Corp., a C corporation, sold two assets during the current year. Asset 1 was depreciable personal property (§1245 asset) with an original cost of $50,000, accumulated depreciation of $30,000, and a selling price of $45,000. Asset 2 was a §1231 asset (land held for business purposes for 3 years) sold at a $12,000 gain. Select all that apply — which of the following statements correctly describes the tax treatment of these transactions?
- A.The entire $25,000 gain on Asset 1 is ordinary income due to §1245 depreciation recapture✓
- B.$30,000 of the gain on Asset 1 is recaptured as ordinary income under §1245
- C.The $12,000 gain on Asset 2 is a §1231 gain eligible for long-term capital gain treatment if net §1231 gains exceed net §1231 losses✓
- D.The $12,000 gain on Asset 2 is automatically treated as ordinary income
Correct answer: A, C
For Asset 1: adjusted basis = $50,000 − $30,000 = $20,000; selling price = $45,000; total gain = $25,000. Under §1245, depreciation recapture applies to the lesser of the gain recognized ($25,000) or accumulated depreciation ($30,000). Since $25,000 < $30,000, the entire $25,000 gain is ordinary income, making option A correct (not B, which incorrectly states $30,000 is recaptured when gain is only $25,000). For Asset 2: land held for business purposes for more than one year is a §1231 asset, and net §1231 gains receive long-term capital gain treatment, making option C correct. Option D is incorrect because §1231 gains are not automatically ordinary income.
Question 3medium
Rosa is a 30% general partner in Willow Creek Partnership. At the beginning of the year, her partnership basis was $15,000. During the year, the partnership allocated $8,000 of ordinary income and $25,000 of ordinary loss to Rosa, and she received a $5,000 cash distribution. Rosa has no amounts at risk beyond her partnership basis and has no passive income from other sources. Select all that apply — which of the following statements correctly describe Rosa's tax situation?
- A.Rosa's basis after the income allocation and cash distribution (before applying the loss) is $18,000✓
- B.Rosa can deduct only $18,000 of the $25,000 loss due to the basis limitation✓
- C.The $7,000 suspended loss is further limited by the passive activity loss rules and cannot offset Rosa's active income
- D.Rosa's ending basis after all transactions is zero✓
- E.Rosa can deduct the full $25,000 loss because she is a general partner
Correct answer: A, B, D
Rosa's basis after income allocation: $15,000 + $8,000 = $23,000; after cash distribution: $23,000 − $5,000 = $18,000 (option A is correct). The basis limitation caps the deductible loss at $18,000, so only $18,000 of the $25,000 loss can be deducted, with $7,000 suspended (option B is correct). After deducting the allowable $18,000 loss, Rosa's basis is $18,000 − $18,000 = $0 (option D is correct). Option C is incorrect because as a general partner materially participating, this is not a passive activity — the $7,000 is suspended by the basis rules, not the passive activity rules. Option E is incorrect because the basis limitation applies to all partners regardless of general or limited status.
Question 4medium
Sentinel Corp. is a domestic C corporation with $500,000 of taxable income before the dividends received deduction (DRD). During the year, Sentinel received $80,000 of dividends from a domestic corporation in which it owns 25% of the outstanding stock. Select all that apply — which of the following statements correctly describe the federal corporate income tax treatment of this dividend?
- A.Sentinel is entitled to a 65% dividends received deduction, resulting in a DRD of $52,000✓
- B.Sentinel is entitled to a 50% dividends received deduction, resulting in a DRD of $40,000
- C.The DRD is limited to 65% of Sentinel's taxable income computed without the DRD if that amount is less than the otherwise allowable DRD✓
- D.If the full DRD creates or increases a net operating loss, Sentinel may claim the full DRD without the taxable income limitation✓
Correct answer: A, C, D
Because Sentinel owns 25% of the dividend-paying corporation (at least 20% but less than 80%), it qualifies for the 65% DRD under IRC §243, making the DRD = $80,000 × 65% = $52,000 (option A correct; option B's 50% rate applies to ownership below 20%). The DRD is generally limited to 65% of taxable income computed without the DRD — here 65% × $500,000 = $325,000, which exceeds $52,000 so the limit does not bite in this case, but the rule itself is correct (option C correct). Option D correctly states the exception: if taking the full DRD would create or increase an NOL, the taxable income limitation does not apply, and the full deduction is allowed.
Question 5medium
Sandra made the following transfers during 2024: (1) gave her son $30,000 cash, (2) paid $22,000 directly to a university for her granddaughter's tuition, (3) gave her spouse (a U.S. citizen) $200,000 worth of stock, and (4) donated $15,000 to a qualified charity. The annual gift tax exclusion for 2024 is $18,000. Select all that apply — which of the following transfers are fully excluded from taxable gifts and do not reduce Sandra's lifetime exemption?
- A.The $30,000 cash gift to her son (after applying the annual exclusion)
- B.The $22,000 tuition payment made directly to the university✓
- C.The $200,000 stock transfer to her U.S. citizen spouse✓
- D.The $15,000 charitable donation✓
Correct answer: B, C, D
Direct tuition payments made to an educational institution (not to the student) are fully excluded from gift tax under the educational exclusion of IRC §2503(e), with no dollar limit — option B is fully excluded. The unlimited marital deduction under IRC §2523 fully excludes transfers to a U.S. citizen spouse, so the $200,000 gift to Sandra's spouse is entirely excluded (option C). Charitable transfers to qualified organizations are fully deductible for gift tax purposes under IRC §2522, making the $15,000 donation excluded (option D). For option A, the $30,000 cash gift to her son qualifies for the $18,000 annual exclusion, but the remaining $12,000 is a taxable gift that reduces her lifetime exemption — therefore option A is not fully excluded.
Question 6hard
An S corporation that was previously a C corporation is subject to the built-in gains (BIG) tax on the sale of an asset only if the sale occurs within 5 years of the S election effective date, and the BIG tax rate is the highest individual income tax rate in effect for the year of the sale.
Correct answer: B
This statement is false for two reasons. First, the recognition period for the built-in gains tax is 5 years (reduced from 10 years), so that part is actually correct under current law. However, the BIG tax is imposed at the highest corporate income tax rate (currently 21%), NOT the highest individual income tax rate. The BIG tax is a corporate-level tax on the S corporation itself, not a tax on the individual shareholders, so it uses the corporate rate. A candidate who confuses the entity-level nature of the BIG tax with pass-through individual taxation would incorrectly select True.
Question 7hard
Under UCC Article 9, a perfected security interest obtained by filing a financing statement always has priority over a subsequently perfected security interest obtained by possession of the collateral, regardless of when each security interest attached.
Correct answer: B
This statement is false. Under UCC Article 9, the general priority rule is 'first to file or perfect,' meaning the first party to either file a financing statement or perfect by another method (such as possession) has priority — not that filing always beats possession. If a secured party perfects by possession before another party files a financing statement, the possessory security interest has priority. Additionally, a purchase money security interest (PMSI) can take priority over an earlier-filed security interest under specific conditions. The blanket assertion that filing always beats possession is incorrect.
Question 8hard
In a Chapter 7 bankruptcy proceeding, a debtor who is an individual may exempt their primary residence's equity up to the federal homestead exemption amount even if the state in which they reside has opted out of the federal bankruptcy exemptions and requires use of state exemptions only.
Correct answer: B
This statement is false. Under the Bankruptcy Code, states are permitted to 'opt out' of the federal exemption scheme (11 U.S.C. §522(b)). When a state opts out, debtors domiciled in that state may only use state-law exemptions, not the federal bankruptcy exemptions. Therefore, the debtor would be subject to whatever homestead exemption (if any) the state provides, which may be higher or lower than the federal amount. Many major states such as California, Florida, and Texas have opted out of the federal scheme, so assuming access to federal exemptions in all states is a common and costly error.
Question 9hard
A worker who sets their own hours, uses their own tools, and simultaneously provides similar services to multiple clients will always be classified as an independent contractor rather than an employee for federal employment tax purposes under IRS guidelines.
Correct answer: B
This statement is false. Worker classification for federal employment tax purposes is determined using a multi-factor common-law test (or the IRS's 3-category framework of behavioral control, financial control, and type of relationship) — no single factor is determinative. While setting one's own hours, using one's own tools, and working for multiple clients are indicators of independent contractor status, they do not guarantee that classification. The IRS and courts consider the totality of circumstances, including the degree of control the hiring party exercises over the work. A worker exhibiting these traits could still be classified as an employee if other factors (e.g., economic dependence, permanency of the relationship) suggest employment.
Question 10hard
Under common law contract principles, if an offeror specifies that acceptance must be received by mail, an acceptance sent by email is effective upon dispatch (i.e., when the email is sent) under the mailbox rule, creating a binding contract at that moment.
Correct answer: B
This statement is false. The mailbox rule provides that acceptance is effective upon dispatch when the offeree uses an authorized means of communication. If the offeror specifically mandates acceptance by mail, then mail is the exclusively authorized method. Using email — a different medium — is not an authorized means under those terms. Therefore, the mailbox rule does not apply, and the acceptance would not be effective until actually received by the offeror. If the email is never received or is received after a deadline, no contract is formed. A candidate who broadly applies the mailbox rule without considering whether the means of acceptance is authorized would incorrectly select True.