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REG CPA Practice Questions: Calculating Individual Tax Liability and Certain Tax Credits
May 3, 2024
In this video, we walk through 6 REG CPA exam practice questions teaching how to calculate an individual's tax liability, including the net investment income tax and certain tax credits.
Important Links
Link to the free study training webinar mentioned in the video: https://www.superfastcpa.com/strategic-study
See the full post for this video:
https://www.superfastcpa.com/reg-cpa-practice-questions-explained-calculating-individual-tax-liability-and-certain-tax-credits/
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https://www.superfastcpa.com/free-reg-cpa-practice-question-walkthroughs/
00:00 Intro
00:54 Question 1: The Progressive US Tax Bracket System
03:24 Question 2: The Child Tax Credit
05:19 Question 3: The Net Investment Income Tax
06:47 Question 4: The "Kiddie" Tax
09:36 Question 5: The Retirement Savings Contributions Credit
11:49 Question 6: The Foreign Tax Credit
13:59 Pillar Topics
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0:00
Welcome to another Reg Walkthrough video
0:02
I'm Logan and in today's video we're going to be going over calculating individual tax
0:06
liability including certain tax credits. And we're going to be doing that the Superfast CPA way, which is diving straight into questions
0:14
to learn the material. Now if you don't know much about our strategies or if this is the first thing you're seeing
0:18
from us, make sure you go to superfastcpa.com and check out our free one hour webinar training
0:24
We teach the six key ingredients to passing the CPA exam and I guarantee it will save
0:28
you so much time in your study process. Again it's only one hour, it's free, definitely go check it out
0:34
The link will be in the description and it will look like this. Also if you like the idea of going through questions as your learning material, make
0:40
sure you check out our Superfast CPA app where we not only have audio notes and review notes
0:45
but we also have five question mini quizzes that you can easily access on the go all throughout
0:50
your day so you're continually learning. With that said, let's dive straight into the questions
0:54
There's one thing I want to point out about this video. We will not be covering every tax credit that there is because there's way too many
1:01
We're only going to be covering some of the major ones that will show up on the CPA exam
1:05
So let's get into question one. Married couple Leo and Marie are filing their taxes jointly for the current tax year
1:12
Their combined taxable income is $130,000. Calculate their federal income tax liability using the generic progressive tax brackets
1:20
below and choose the correct answer. The generic tax brackets for married filing jointly are 10% on income from 1 to 20,000
1:28
12% on income from 20,000 and 1 to 90,000, and 22% on income from 90,000 and 1 to 175,000
1:36
Now just a disclaimer, if you know anything about taxes, of course these are not the current
1:41
and actual tax brackets. These are again like it says in the question generic so that we can learn the concept without
1:47
having to constantly remake, change the question for future videos. Now if you don't know anything about the progressive tax system in the US, that's okay
1:56
We're going to dive straight into the answer to learn how this works because this is the base for calculating tax liability
2:02
So let's go ahead and get into the answer. Okay, the answer is $19,200
2:06
So this is how it works. First you apply the 10% rate to the income up to that first threshold
2:12
So 10% on the first 20,000. Then you apply the 12% rate to the income between the first and second threshold
2:18
So 12% on the 70,000 that's in that 12% range. And then you finally apply the 22% range to the remainder of the income up to their taxable income
2:27
So that would be the 90,000 to the $130,000. Now obviously this range is, it includes that $1, but for simplicity and in reality with
2:38
real taxes, it would end up being this same number in the end because of rounding
2:43
So that's why we're simplifying it in that way. Now we sum up all the amounts to find the total tax liability
2:47
So you add that all together and then you get the full tax liability of $19,200
2:52
So again, if you didn't know how the US tax system works, it is a progressive tax system
2:57
So you tax your income in each bracket as it goes up
3:01
And there are more brackets beyond this obviously, but that was what we needed to teach in this question
3:08
So this is the basis. And from here, we're going to learn about different tax credits that can then affect
3:14
this so that you might pay less tax. And one more reminder, we are not covering all tax credits, just the most common tax
3:21
credits that you will see on the CPA exam. So let's get into it. Okay
3:25
Here's question two. Charlie and Alex Thompson have three children, ages five, seven, and 12
3:30
All children meet the definition of qualifying child according to the IRS standards
3:34
The Thompson family has an adjusted gross income or AGI of $95,000
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What is the amount of the child tax credit that the Thompson family can claim on their current year income tax return
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Assuming the phase out has not begun for their income level. Okay
3:49
To learn how this works, let's go straight into the answer. Okay. And the answer is $6,000
3:53
So let's read about it. The child tax credit is a credit given for each qualifying child under a certain age
3:58
which directly reduces the tax liability on a dollar for dollar basis
4:03
Child qualifies for the child tax credit if they are under 17 years old at the end of
4:06
the tax year, have a specified family relationship to the taxpayer, such as being a child or
4:11
a grandchild and are claimed as a dependent on the taxpayer's return
4:15
The child must have lived with the taxpayer for more than half of the year, not have provided
4:19
over half of their own financial support and must be a U S citizen, national or resident
4:24
with a valid social security number. Income limits also apply phasing out the credit for higher income earners
4:30
Just letting you know, currently that's like $400,000 for married filing jointly
4:35
So we're not focusing on that income limit. And again, that will change as the years go on
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Just know that for the CPA exam, you probably won't have to worry about that high income
4:45
earner limitation. So just know that most people will qualify for the full credit
4:51
Since the Thompson family's AGI is $95,000, they fall well below the typical phase out
4:56
threshold for the child tax credit. They have three qualifying children and each child is eligible for a $2,000 credit
5:02
And there's no limit to how many children can qualify for this as long as they are all qualifying
5:06
And again, as long as you are under that AGI limit. So you calculate that $2,000 by three and that's $6,000 of a credit that will reduce
5:15
your tax liability. Okay. That's the first credit. Let's go ahead and go to the next credit. Okay
5:20
Here's question three. James, a single taxpayer has a modified adjusted gross income of $250,000 for the year
5:27
His net investment income totals $60,000. The threshold amount for a single taxpayer for net investment income tax purposes is $200,000
5:37
Calculate James net investment income tax liability for the year. Okay. We have no idea how the net investment income tax works
5:44
So let's go into the answer to learn how this works. Okay. The answer is $1,900
5:48
So to calculate the net investment income tax, you take the lesser of net investment
5:52
income or the excess of modified adjusted gross income over the threshold amount, and
5:58
then apply a 3.8% tax rate to this amount. So his MAGI exceeds the threshold by $50,000
6:07
And in this question, this threshold is $200,000. And again, that's not the actual threshold just as an example
6:15
And since that $50,000 is less than his actual net investment income of $60,000, we use the
6:21
$50,000 instead of the $60,000 and then multiply it by 3.8% giving us the net investment income tax
6:29
So this was not a credit. Sorry. I said that before. So as the question says there, you take the net investment income or however much your
6:37
total income is above the net investment income limit, take the lesser of those two and multiply
6:44
it by 3.8%. Let's go ahead and go to the next question. Okay
6:48
Here is question four. Olivia, a 16 year old dependent has $1,500 in taxable interest and $1,000 in stock dividends
6:55
for the tax year. For this scenario, assume the standard deduction for a dependent's unearned income is $1,100
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So this is a different standard deduction than the normal standard deduction we've talked
7:07
about in previous videos. The kiddie tax is applied at the child's tax rate for unearned income between $1,100 and
7:13
$2,200 and at the parent's tax rate for any unearned income exceeding $2,200
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How much of Olivia's unearned income is taxed at her own rate and at her parent's rate
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So again, this is called the kiddie tax. Let's dive into the answer to learn how this works. Okay
7:31
So $1,100 would be taxed at Olivia's rate and $300 at her parent's rate
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So let's learn how this works. To determine the kiddie tax liability, subtract the standard deduction for a dependent's unearned
7:42
income from the child's total unearned income. So you subtract it once
7:47
So subtract $1,100 from the total $2,500. Then you apply the child's tax rate to the income over the standard deduction up to the
7:55
standard deduction times two basically. So $2,200. So $1,100 is the standard deduction
8:02
Anything under that, not taxed. And then anything up to the standard deduction over again, so up to $2,200, that is taxed
8:09
at the child's rate. And then any unearned income over that $2,200 is then taxed at the parent's rate
8:16
So again, let's look at the calculation. Yeah, total unearned income of $2,500
8:21
You subtract the standard deduction once and all of that income is not taxed
8:28
And then any amount, and then you subtract the standard deduction again
8:32
And that means that $1,100 of this $1,400 is taxed at Olivia's tax rate
8:38
And then everything else above that is then taxed at the parent's tax rate
8:42
So again, that means that $1,100 is taxed at Olivia's tax rate and $300, which is what's
8:48
remaining is taxed at the parent's tax rate. So just to keep it simple for unearned income for a dependent, there is a standard deduction
8:56
each year and $1,100 is not the actual one. It's pretty close to what the one is right now, but that will change as the years go on
9:04
But the idea is you take that standard deduction, subtract it from the unearned income
9:09
That amount is not taxable. And you subtract it again, if there is enough income for that, that is, and that amount
9:15
is taxed at the child's marginal tax rate. And then anything remaining or essentially over that limit is taxed at the parent's marginal
9:23
tax rate. Now we're not going to dive into the different marginal tax rates again, that changes as
9:28
the years go by, but that this is the general idea behind unearned income and the kitty tax
9:34
So let's go ahead and go to the next question. Okay. Question five, Tina, a single taxpayer with an adjusted gross income of $18,000 contributed
9:43
$1,000 to her traditional IRA based on the following AGI ranges and credit percentages
9:48
for the retirement savings contributions credit for a single filer calculate the amount of
9:52
credit Tina is eligible for. So here are the AGI ranges for this question
9:57
AGI up to $20,000, 50% of the contribution. And we'll learn what that means in the answer here, AGI 20,000 to 30,000, 20% of the contribution
10:08
AGI 30,000 to $40,000, 10% of the contribution and anything above $40,000 is not eligible
10:14
for the credit. And in this situation, the maximum contribution eligible for the credit is $2,000
10:20
So what credit amount can Tina claim for her IRA contribution? Let's go ahead and dive into the answer to understand how this works. Okay
10:28
$500 is the amount of credit that she can take. So the retirement savings contributions credit is non-refundable and can only be taken by
10:36
individuals who have made eligible contributions to their retirement accounts. The credit rate applied to the contribution amount depends on the taxpayer's AGI and
10:44
filing status. The maximum amount of the contribution eligible for the credit is $2,000 for a single filer
10:50
which can result in a credit of up to $1,000. Tina's AGI is $18,000, which places her in the first AGI range for a single filer
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According to the provided ranges, she is eligible for a credit at the rate of 50% of her contribution
11:05
Since she contributed $1,000, which is within the $2,000 limit, we can calculate her credit
11:10
as $500. So the maximum amount of contributions that can qualify for the credit is $2,000
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And then based off of that $2,000 and based off of the person's AGI, that determines how
11:24
much of the credit can be taken. She can take 50% of her contribution
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So again, because she made a $1,000 contribution, which is underneath the $2,000 limit, she
11:33
takes half of that as the credit. So the main things to learn from this, the max contribution that can qualify for the
11:39
credit is $2,000. And then based on the person's AGI, you calculate how much of the contribution can actually
11:45
be used as a credit. All right, let's go to the last question
11:49
Okay, here's question six. George, a US resident, earns income from both domestic and foreign sources
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This year, his taxable income from US sources is $70,000 and his taxable income from foreign
12:02
operations is $30,000. George paid $15,000 in foreign income taxes on the foreign earnings
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The US tax rate is 25%. Calculate George's foreign tax credit limit to offset his US tax liability
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Okay, one more situation where we don't really know what goes into this
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So let's go ahead and look at the answer to learn how it works. Okay, the answer is $7,500
12:25
The foreign tax credit is a non-refundable tax credit for income taxes paid to a foreign
12:29
government due to foreign income tax withholdings. It's calculated based on the lesser of the total amount of foreign taxes paid, which
12:36
in this case was $15,000, or the US tax liability on the foreign income, which helps to avoid
12:42
double taxation. And we'll learn how to calculate that US tax liability in a second here
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Any unused foreign tax credit can be carried back one year and forward 10 years
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So if you can't deduct the full amount of foreign taxes paid this year because of the
12:56
limitations, you can carry it back one year or forward 10 years
12:59
George's total worldwide income is $70,000 plus $30,000, $100,000. The US tax before credits is 25% of his worldwide income
13:09
So that's $25,000. The foreign tax credit is calculated as follows. So you take the $30,000 divided by the $100,000, which gives you the percentage of the income
13:19
that was foreign. You multiply that by the total tax liability and that will give you the foreign tax credit
13:27
limit, or in other words, how much of the foreign taxes you paid you can take as a credit
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And since this $7,500 is less than the total foreign taxes paid $15,000, then he can only
13:40
claim $7,500 as the foreign tax credit. And then the remaining $7,500 would be carried back one year or forward 10 years
13:48
And that's how you calculate the foreign tax credit. And that is the last question of the video
13:53
To finish, let's go ahead and do one more part of the superfast CPA strategy, which
13:57
is something called pillar topics. Now the idea behind pillar topics is as you're going through the questions to learn the material
14:04
and afterwards, you take a second and you think about the things that you learned from
14:09
those questions. You think about the topics that were repeated over and over again, and it became obvious
14:16
that they were the important things that you needed to know and learn from your study session
14:21
So let's go ahead and look at the pillar topics for this video. Okay, here are the pillar topics for the video
14:26
First, the US has a progressive tax system where you tax the income in each bracket all
14:31
the way up to your income in the highest bracket. So again, you tax the income in the first bracket, and then once you pass that, you
14:38
tax the remaining income in the next bracket, and then you tax the remaining income in the
14:42
next bracket and you just keep going on and on. Next, the child tax credit gives you $2,000 per qualifying child
14:49
That's the easiest way to look at it. So the most important thing for the child tax credit is knowing what a qualifying child
14:54
is and knowing that each qualifying child gives you $2,000 of child tax credit
14:59
Next, the net investment income tax takes the lesser of the net investment income or
15:05
the amount of modified AGI over the net investment income tax limit, which will be given or you'll
15:11
know from your review course, and you multiply the lesser of those two by 3.8% to get the
15:16
net investment income tax. Next, the kiddie tax takes the child's unearned income, subtracts the standard deduction for
15:22
the child, then subtracts it again. Any amount under the first standard deduction is not taxed
15:28
Any amount in between the first standard deduction and the second standard deduction is taxed
15:33
at the child's marginal tax rate, and any amount over the second standard deduction
15:37
is taxed at the parent's marginal tax rate. And when I say standard deduction, it is a specific standard deduction for dependents
15:45
and that changes from year to year. In our situation, it was $1,100
15:49
In 2023, it was $1,250. A little bit confusing, but again, it makes sense once you know how it works
15:55
Next, the retirement savings contribution credit takes a maximum contribution of $2,000
16:00
to a retirement and multiplies it by a percentage based on the person's AGI to get the credit
16:06
And again, that is something that you will know from your review course, but just know that this is how it works
16:12
And finally, the foreign tax credit is the lesser of the foreign taxes paid or the percentage
16:16
of US taxes calculated on foreign income. So in our example, $15,000 was foreign income taxes paid, but then $30,000 of foreign income
16:26
was only 30% of the total income for that person. So we calculated 30% of the total tax liability and that's what the credit was
16:35
It was the lesser of foreign taxes paid or that foreign tax credit limit
16:40
And with that said, that is the end of the video. If you liked it, make sure to like and leave a comment on the YouTube video
16:45
Also, especially make sure you go check out the Superfast CPA training webinar where we
16:50
go over the six key ingredients to passing the CPA exam. It's something you don't want to miss
16:54
Also, go check out our Superfast CPA app if you liked going through questions to learn
16:58
the material. I hope this helped. Thanks for watching and I will see you in the next video
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