Solution Manual For Federal Tax Research, 13th Edition by Roby Sawyers, Steven Gill, Verified Chapters 1 - 13, Complete Newest Version.pdf

Federal Tax Research, 12th
Edition Page 1-1
Solution Manual Federal Tax Research 12th Edition by Roby Sawyers, Steven Gill
CHAPTER 1
INTRODUCTION TO TAX PRACTICE AND ETHICS
DISCUSSION QUESTIONS
1-1. In the United States, the tax system is an outgrowth of the following five disciplines:
law, accounting, economics, political science, and sociology. The environment for the
tax system is provided by the principles of economics, sociology, and political
science, while the legal and accounting fields are responsible for the system‘s
interpretation and application.
Each of these disciplines affects this country‘s tax system in a unique way. Economists
address such issues as how proposed tax legislation will affect the rate of inflation or
economic growth. Measurement of the social equity of a tax and determining whether
a tax system discriminates against certain taxpayers are issues that are examined by
sociologists and political scientists.
Finally, attorneys are responsible for the interpretation of the taxation statutes, and
accountants ensure that these same statutes are applied consistently.****8880()
Page 4
1-2. The other major categories of tax practice in addition to tax research are as follows:
 Tax compliance
 Tax planning
 Tax
litigation Page 5
1-3. Tax compliance consists of gathering pertinent information, evaluating and classifying
that information, and filing any necessary tax returns. Compliance also includes other
functions necessary to satisfy governmental requirements, such as representing a
client during an Internal Revenue Service (IRS) audit.

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Page 5
1-4. Most of the tax compliance work is performed by commercial tax preparers, enrolled
agents (EAs), attorneys, and certified public accountants (CPAs). Noncomplex
individual, partnership, and corporate tax returns often are completed by commercial
tax preparers. The preparation of more complex returns usually is performed by EAs,
attorneys, and CPAs. The latter groups also provide tax planning services and
represent their clients before the IRS.
An EA is one who is admitted to practice before the IRS by passing a special IRS-
administered examination, or who has worked for the IRS for five years and is issued a
permit to represent clients before the IRS. CPAs and attorneys are not required to take
this examination and are automatically admitted to practice before the IRS if they are in
good standing with the appropriate professional licensing board.
Page 5 and Circular 230
1-5. Tax planning is the process of arranging one‘s financial affairs to minimize any tax liability.
Much
of modern tax practice centers around this process, and the resulting outcome is tax
avoidance. There is nothing illegal or immoral in the avoidance of taxation as long as
the taxpayer remains within legal bounds. In contrast, tax evasion constitutes the illegal
nonpayment of a tax and cannot be condoned. Activities of this sort clearly violate
existing legal constraints and fall outside of the domain of the professional tax
practitioner.
Page 6
1-6. In an open tax planning situation, the transaction is not yet complete; therefore, the tax
practitioner maintains some degree of control over the potential tax liability, and the
transaction may be modified to achieve a more favorable tax treatment. In a closed
transaction however, all of the pertinent actions have been completed, and tax planning
activities may be limited to the presentation of the situation to the government in the
most legally advantageous manner possible.

Edition Page 1-3
Page 6
1-7. Tax litigation is the process of settling a dispute with the IRS in a court of law.
Typically, a tax attorney handles tax litigation that progresses beyond the final IRS
appeal.
Page 6
1-8. CPAs serve is a support capacity in tax litigation.
Page 6
1-9. Tax research consists of the resolution of unanswered taxation questions. The tax
research process includes the following:
1. Identification of pertinent issues;
2. Specification of proper authorities;
3. Evaluation of the propriety of authorities; and,
4. Application of authorities to a specific
situation. Page 6
1-10. Circular 230 is issued by the Treasury Department and applies to all who practice
before the IRS. Page 7
1-11. In addition to Circular 230, CPAs must follow the AICPA‘s Code of Professional
Conduct and Statements on Standards for Tax Services. CPAs must also abide by the
rules of the appropriate state board(s) of accountancy.
Page 7
1-12. A return preparer must obtain 18 hours of continuing education from an IRS-approved
CE Provider. The hours must include a 6 credit hour Annual Federal Tax Refresher
course (AFTR) that covers filing season issues and tax law updates. The AFTR course
must include a knowledge- based comprehension test administered at the conclusion of
the course by the CE Provider.

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Limited practice rights allow individuals to represent clients whose returns they
prepared and signed, but only before revenue agents, customer service
representatives, and similar IRS employees.
Page 10 and IRS.gov
1-13. False. Only communication with the IRS concerning a taxpayer‘s rights, privileges, or
liability is included. Practice before the IRS does not include representation before the
Tax Court.
Page 7
1-14. Section 10.2 of Subpart A of Circular 230 defines practice before the IRS as including:
matters connected with presentation to the Internal Revenue Service or any of
its officers or employees relating to a client‘s rights, privileges, or liabilities
under laws or regulations administered by the Internal Revenue Service. Such
presentations include the preparation and filing of necessary documents,
correspondence with, and communications to the Internal Revenue Service,
and the representation of a client at conferences, hearings, and meetings.
Page 7
1-15. To become an EA an individual can (1) pass a test given by the IRS or (2) work for the
IRS for five years. Circular 230, Subpart A, §§ 10.4 to 10.6.
Page 9
1-16. EAs must complete 72 hours of continuing education every three years (an average of
24 per year, with a minimum of 16 hours during any year). Circular 230, Subpart A. §
10.6.
Page 9
1-17. True. As a general rule, an individual must be an EA, attorney, or CPA to represent a
client before the IRS. There are limited situations where others may represent a
taxpayer; however, this fact pattern is not one of them. Since Leigh did not sign the
return, she cannot represent the taxpayer, only Rose can.

Edition Page 1-5
Pages 10–11
1-18. The names of organizations that can be represented by regular full-time employees are
found in Circular 230, § 10.7(c). A regular full-time employee can represent the
employer (individual employer). A regular full-time employee of a partnership may
represent the partnership. Also, a regular full-time employee of a trust, receivership,
guardianship, or estate may represent the trust, receivership, guardianship, or estate.
Furthermore, a regular full-time employee of a governmental unit, agency, or authority
may represent the governmental unit, agency, or authority in the course of his or her
official duties.
Page 10
1-19. Yes. Circular 230, Subpart A, § 10.7.
Page 10
1-20. True. A practitioner may be suspended or disbarred from practice before the IRS if
he or she knowingly helps a suspended or disbarred person practice indirectly
before the IRS.
Page 12
1-21. A practitioner may not advise a client to take a position on a document, affidavit, or
other paper submitted to the IRS unless the position is not frivolous. Circular 230 §
10.34(b).
Page 14
1-22. Under Circular 230, an attorney, a CPA, or an EA may use mass media (e.g., T.V. and the
Internet) for advertising purposes. Such media may not contain false, fraudulent, unduly
influencing, coercive, or unfair statements or claims. Attorneys, CPAs, and EAs must also
observe any applicable standards of ethical conduct adopted by the American Bar
Association (ABA), the American Institute of Certified Public Accountants (AICPA), and
the National Association of Enrolled Agents (NAEA). Additional standards and listing of
items that may be included in mass media advertising are defined under § 10.30 of
Subpart B in Circular 230.
Page 19

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1-23. Under § 10.25 of Circular 230, partners of government employees cannot represent
anyone for which the government employee-partner has (or has had) official
responsibility. For instance, a CPA firm with an IRS agent could not represent any
taxpayer who is (or was in the past) assigned to the IRS agent-partner.
Page 12
1-24. Under § 10.21 of Circular 230, each attorney, CPA, EA, or enrolled actuary who knows
that the client has not complied with the revenue laws of the United States or has
made an error in or omission from any return, document, affidavit, or other paper
which the client is required by the revenue laws of the United States to execute shall
advise the client promptly of the fact of such noncompliance, error, or omission.
Page 11
1-25. According to Circular 230, the best practices rules are aspirational. Thus, a
practitioner who fails to comply with best practices will not be subject to discipline by
the IRS.
Page 14
1-26. Best practices include the following:
a. Communicating clearly with the client regarding the terms of the engagement. For
example, the advisor should determine the client‘s expected purpose for and use of
the advice and should have a clear understanding with the client regarding the
form and scope of the advice or assistance to be rendered.
b. Establishing the facts, determining which facts are relevant, evaluating the
reasonableness of any assumptions or representations, relating the applicable law
(including potentially applicable judicial doctrines) to the relevant facts, and
arriving at a conclusion supported by the law and the facts.
c. Advising the client regarding the importance of the conclusions reached, including,
for example, whether a taxpayer may avoid accuracy-related penalties under the
Internal Revenue Code if a taxpayer acts in reliance on the advice.
d. Acting fairly and with integrity in practice before the
IRS. Pages 13–14

Edition Page 1-7
1-27. A practitioner must not give written advice if the practitioner:
1. bases the written advice on unreasonable factual or legal assumptions (including
assumptions as to future events),
2. unreasonably relies upon representations, statements, findings, or agreements of
the taxpayer or any other person,
3. does not consider all relevant facts that the practitioner knows or should know, or
4. in evaluating a Federal tax issue, takes into account the possibility that a tax return
will not be audited, that an issue will not be raised on audit, or that an issue will
be resolved through settlement if raised.
Page 15
1-28 This would be considered a conflict of interest and is generally prohibited under the
AICPA Code of Professional Conduct. While you can accept the engagement if you
disclose to both parties the nature of the relationship and obtain the consent of both
parties, before accepting the engagement, you should consider your ability to act with
objectivity and independence in discharging your responsibilities.
Pages 16-22
1-29 A preparer tax identification number (PTIN) is required of a compensated individual who
prepares or assists with the preparation of all or substantially all of a tax return or
claim for refund must have a PTIN. Normally, the individual must be an attorney, CPA,
EA, or tax return preparer must obtain a PTIN in order to file tax returns for clients
Page 10
1-30. Individuals who prepared tax returns for compensation must follow the rules under
Circular 230 Subpart B —Duties and Restrictions Relating to Practice Before the
Internal Revenue Service and Subpart C—Sanctions for Violation of the Regulations.
Thus, they are generally held to the same standards of practice as persons who are
eligible to practice before the IRS (Attorneys, CPAs, and EAs).

8 SOLUTIONS MANUAL
Pages 6 and 11
1-31. The AICPA‘s Code of Professional Conduct provides a philosophical foundation upon
which the Rules of Conduct are based. The Principles of the Code of Professional
Conduct suggest that a CPA should strive for behavior that is above the minimal level of
acceptable conduct set forth by the rules. The code was designed to provide the
following:
1. A comprehensive code of ethics and professional conduct;
2. A guide for practitioners in answering complex questions; and
3. Assurance to the public concerning the obligations and responsibilities of the
accounting profession.
Pages 16-17
1-32. Threats to complying with the Independence Rule include the following:
 Members not acting with objectivity due to an adverse interest
 Advocacy threats
 Familiarity threats due to a long or close relationship with a client
 Management participation threats
 Self-interest threats
 Self-review threats
 Undue influence
threats Page 18
1-33. In a tax practice the CPA may be requested to blindly follow the guidelines of a
government agency or the demands of an audit client. This rule prohibits such blind
obedience. The code specifically recognizes that conflicts of interest may arise in tax
contexts, including providing tax or personal financial planning services for several
members of a family whom the member knows to have opposing interests or when
referring a personal financial planning or tax client to an insurance broker or other
service provider who refers clients to the member under an exclusive arrangement.
Page 20

Edition Page 1-9
1-34. The General Standards Rule includes the following:
1. The CPA must be able to complete all professional services with professional
competence.
2. The CPA must exercise due professional care in the performance of all professional
services.
3. The CPA shall adequately plan and supervise the performance of all professional
services.
4. The CPA must obtain sufficient relevant data to afford a reasonable basis for any
conclusion or recommendation in connection with the performance of any professional
services.
Competence encompasses not only technical subject matter but also knowledge of the
profession‘s standards and the ability to exercise sound judgment in applying the
technical knowledge. At the same time, the code is clear that the member does not
assume a responsibility for infallibility of knowledge or judgment
Page 21
1-
35.
a. No violation
b. 1.520.001: Commissions and Referral Fees
c. No violation
d. 1.600.001: Advertising and Other Forms of Solicitation
e. 1.800.001: Form of Organization and Name Rule
f. 2.400.090 or 3.400.090: Acts
Discreditable Rule Pages 19-21
1-
36.
1.700.001 (Confidential Client Information Rule) does not apply in the following situations:
1. There is a conflict with the Compliance with Standards Rule [1.310.001] or the
Accounting Principles Rule [1.320.001].
2. The CPA is served with an enforceable subpoena or summons or must comply with
applicable laws and government regulations.
3. There is a review of a CPA‘s practice under AICPA or state society authorization.
4. The CPA is responding to an inquiry of an investigative or disciplinary body of a
recognized society, or the CPA is initiating a complaint with a disciplinary body.

10 SOLUTIONS MANUAL
Pages 19-20
1-37. The Statements on Standards for Tax Services, or SSTS, are a series of statements,
issued by the AICPA, as to what constitutes appropriate standards for tax practice. The
statements also delineate a member‘s responsibility to clients, the public, and the
profession.
The stated objectives of the statements are as follows:
SSTS No. 1: Tax Return Positions. This statement sets forth the applicable standards for
members when recommending tax return positions, or preparing or signing tax returns.
This statement also addresses a member‘s obligation to advise a taxpayer of relevant
tax return disclosure responsibilities and potential penalties.
SSTS No. 2: Answers to Questions on Returns. This statement sets forth the applicable
standards for members when signing the preparer‘s declaration on a tax return if one
or more questions on the return have not been answered.
SSTS No. 3: Certain Procedural Aspects of Preparing Returns. This statement sets forth
the applicable standards for members concerning the obligation to examine or verify
certain supporting data or to consider information related to another taxpayer when
preparing a taxpayer‘s tax return.
SSTS No. 4: Use of Estimates. This statement sets forth the applicable standards for
members when using the taxpayer‘s estimates in the preparation of a tax return. A
member may advise on estimates used in the preparation of a tax return, but the
taxpayer has the responsibility to provide the estimated data. Appraisals or valuations
are not considered estimates for purposes of this statement.
SSTS No. 5: Departure from a Position Previously Concluded in an Administrative
Proceeding or Court Decision. This statement sets forth the applicable standards for
members in recommending a tax return position that departs from the position
determined in an administrative proceeding or in a court decision with respect to the
taxpayer‘s prior return.
SSTS No. 6: Knowledge of Error: Return Preparation and Administrative Proceedings.
This statement sets forth the applicable standards for a member who becomes aware of
(a) an error in a

Edition Page 1-11
taxpayer‘s previously filed tax return; (b) an error in a return that is the subject of an
administrative proceeding, such as an examination by a taxing authority or an appeals
conference; or (c) a taxpayer‘s failure to file a required tax return.
SSTS No. 7: Form and Content of Advice to Taxpayers. This statement sets forth the
applicable standards for members concerning certain aspects of providing advice to a
taxpayer and considers the circumstances in which a member has a responsibility to
communicate with a taxpayer when subsequent developments affect advice previously
provided.
Pages 22-26
1-38. False, SSTSs are enforceable for AICPA members who perform tax services. If a CPA is
not a member of the AICPA, he or she is not subject to the SSTSs.
Page 22
1-39. Under SSTS No. 1, a member should determine and comply with the standards, if any,
which are imposed by the applicable taxing authority with respect to recommending a
tax return position, or preparing or signing a tax return. If the applicable taxing
authority has no written standards with respect to recommending a tax return position
or preparing or signing a tax return, or if its standards are lower than the standards set
forth in SSTS No. 1, then SSTS No. 1 must be followed.
Page 22
1-40. SSTS No.1 provides that a member should have a good faith belief that a recommended
position has a realistic possibility of being sustained if challenged. In addition, a
member may recommend a tax return position if the member concludes that there is a
reasonable basis for the position and advises the taxpayer to appropriately disclose that
position. Thus, a member may prepare or sign a tax return that reflects a position if a
member has a reasonable basis for the position and that position is appropriately
disclosed.
Page 22
1-41. Reasonable grounds for omitting an answer on a return include cases in which:

12 SOLUTIONS MANUAL
1. The pertinent data are not readily available and are not significant to the
determination of taxable income or loss or the resulting tax liability.
2. The taxpayer and the member are genuinely uncertain as to the meaning of the
question on the return.
3. An answer is voluminous; however, assurance should be given on the return that the
data can be supplied upon request.
Page 23
1-42. In preparing a return, the member may ordinarily rely upon information that the
taxpayer has provided. Although an examination of supporting documents is not
required, the member should encourage the taxpayer to provide supporting
documents, whenever appropriate.
Page 23
1-43. A member may prepare tax returns that involve the use of the taxpayer‘s estimates, if,
under the circumstances, it is impractical to obtain exact data and the estimated
amounts appear reasonable to the member. Estimates may be appropriate where the
keeping of precise records with respect to numerous items of small amounts is difficult
to achieve, where data is not available as of the time for filing the return, or certain
records are missing.
Pages 23-24
1-44. The selection of the treatment of an item on a tax return should be based upon the facts
and the law that is applicable at the time a return is prepared. Unless the taxpayer is
bound by the IRS to the treatment of an item in later years, such as by a closing
agreement, the disposition of an item in a prior year‘s audit does not govern the
treatment of a similar item in a later year‘s return.
Therefore, a member may sign a return that contains a departure from a treatment
that was required by the IRS in a prior year return, provided the standards under
SSTS No. 1 are adhered to.
Pages 24-25
1-45. When a member learns of an error in a previously filed tax return, or the member
becomes aware of an error during an administrative proceeding, he or she must advise
the taxpayer promptly. This

Edition Page 1-13
advice should include a recommendation of the appropriate measures that the taxpayer
should take. The member is not obligated to inform the IRS of the error and may not
do so without the taxpayer‘s permission, except as required by law.
Page 25
1-46. SSTS No. 7. It states that the member must use judgment that reflects professional
competence and serves the taxpayer‘s needs.
Page 26
1-47. No, under Circular 230 and the SSTSs, advice may be either written or oral. SSTS No. 7
provides information on the form and content of advice to taxpayers for AICPA
members and provides a list of factors that members should consider in determining
whether the advice is written or oral.
Page 26
1-48. No, tax compliance work for an audit client is allowed. It must be approved by
the audit committee of the issuer.
Page 28
1-49. Neither the ABA Code nor the Model Rules have the force of law. Each was designed to
be adopted by the appropriate agencies that govern the practice of law in the various
states. In many jurisdictions, the state Supreme Court is charged with policing the
practice of law. In other states, the legislature assumes this responsibility.
Page 28
1-50. An ethical dilemma occurs when someone is faced with a situation in which there are
no clearly defined answers such as by regulation or law.
Page 28
1-51. The major types of ethical reasoning are as follows:

14 SOLUTIONS MANUAL
1. End-based ethical reasoning is where the ethical decision is the one that produced
the most good for the largest number of people.
2. Rule-based ethical reasoning was based on German philosopher Immanuel Kant‘s idea
that
individual actions should be such that we would accept similar behavior from everyone
else.
3. Care-based ethical reasoning advises one to make decisions that would result in the
treatment you yourself would like to receive.
Page 29
1-52. Professional ethical behavior is the result of the interaction of personal morality, social
responsibility, business ethics, and other general ethical standards. When something is
judged to be morally right or wrong (or good or bad), the underlying standards on
which such judgments are based are called moral standards. The tax practitioner must
be aware of social responsibility in areas such as environmental protection, equal
opportunity, and occupational safety. Business ethics examines the moral and ethical
problems that arise in a business environment. There is disagreement about whether a
company has ethical responsibilities. Other ethical standards may include public policy,
religious beliefs, and cultural values.
Pages 29-31
1-53. Ethical issues involved in this case could include morality and business ethics. The
moral issue involves the consideration of the ―right thing to do‖ with respect to the
plane ticket. The business ethics issues involve maintaining the integrity of the firm.
1-54. Unless the firm clearly allows staff to take home supplies (which likely would result in
additional income to the staff members), this is clearly not ethical behavior. If Donna
does work at home and the firm has clear policies allowing supplies to be taken home
and used for work purposes, the behavior would be reasonable.
1-55. CPAs are in little danger of entering into the unauthorized practice of law as long as
they avoid providing general legal services. The issue that arises is not whether CPAs
are rendering legal services but how much legal service is provided. Because of the
lack of guidelines on this issue, the federal agencies seem to have taken a lead in
attempting to solve this problem.

Edition Page 1-15
Page 34
1-56. To avoid being charged with the unauthorized practice of law, the following activities
should be avoided.
 Expressing a legal opinion on a nontax matter
 Drafting wills or trust instruments
 Drafting contracts
 Drafting incorporation papers
 Drafting partnership
agreements Page 36
EXERCISES
1-
57.
1-
58.
a. Subpart A, § 10.4(c)8: Eligibility for enrollment as an EA or enrolled retirement
plan agent. Discussion of the criteria for enrollment before the IRS.
b. Subpart B, § 10.21: Knowledge of client‘s omission. Each attorney, CPA, EA, or enrolled
actuary who knows that the client has not complied with the revenue laws of the United
States or has made an error in or omission from any return, document, affidavit, or
other paper shall advise the client promptly of the fact of such noncompliance, error,
or omission.
c. Subpart B, § 10.26 Notaries: A practitioner may not perform any official act as a
notary public with respect to any matter administered by the IRS for which he or she
is employed as counsel, attorney, or agent.
d. Subpart B, § 10.29 Conflicting interests: No tax practitioner can represent
conflicting interests before the IRS unless he or she has the express consent of the
directly interested parties.
Circular 230
a. Subpart C, § 10.51(a)(12): Contemptuous conduct in connection with practice before
the IRS, including the use of abusive language, making false accusations or
statements, knowing them to be false, or circulating or publishing malicious or
libelous matter.
b. Subpart A, § 10.6(e): Conditions for renewal. In order to qualify for renewal of
enrollment, an individual, to practice before the IRS, must certify that he or she has
satisfied the continuing

16 SOLUTIONS MANUAL
professional education requirements.
c. Subpart A, § 10.3(f): Registered tax return preparers.
d. Subpart B, § 10.27: Fees. Discussion of provision that a practitioner may not charge
an unconscionable fee for representing a client in a matter before the IRS. Also, a
practitioner may not charge a contingent fee for preparing an original return.
1-
59.
Circular 230
a. Subpart B, § 10.22(b): Reliance on others. Except as modified by §§ 10.34 and 10.37, a
practitioner will be presumed to have exercised due diligence for purposes of this
section if the practitioner relies on the work product of another person and the
practitioner used reasonable care in engaging, supervising, training, and evaluating the
person, taking proper account of the nature of the relationship between the practitioner
and the person.
b. Subpart A, § 10.7(c)(1)(vi): An individual may represent any individual or entity, who is
outside the United States, before personnel of the IRS when such representation takes
place outside the United States.
c. Subpart B, § 10.24: Prohibits assistance from disbarred or suspended persons.
d. Subpart B, § 10.34: Defines standards for advising and signing
returns. Circular 230
1-
60.
a. Subpart B, § 10.33: Discussion of adhering to the best practices in providing advice.
b. Subpart B, § 10.35: Provides standards on ―covered opinions.‖
c. Subpart B, § 10.36: Requires that a firm take reasonable steps to adhere to the
―covered opinions‖ section.
d. Subpart B, § 10.37: Describes situations in which a tax practitioner should not give written
advice.
Circular 230
1-
61.
a. Solicitation is discussed in Subpart B, § 10.30.
b. Negotiation of a taxpayer‘s refund checks is discussed in Subpart B, § 10.31.
c. Who may practice before the IRS is discussed in Subpart A § 10.3.
d. Authority to disbar or suspend from practice before the IRS is discussed in Subpart C, §
10.50.

Edition Page 1-17
Circular 230
1-
62.
a. Conflicting interests are discussed in Subpart B, § 10.39.
b. Disreputable conduct is discussed in Subpart C, § 10.51.
c. Assistance from disbarred or suspended persons is discussed in Subpart B, § 10.24.
d. Representing oneself before the IRS is discussed in Subpart A,
§ 10.7. Circular 230
1-
63.
a. Practice of law is discussed in Subpart B, § 0.32.
b. Information to be furnished is discussed in Subpart B, § 10.20.
c. Fees are discussed in Subpart B, § 10.27.
d. Responsibility for correcting errors is discussed Subpart, §
10.21. Circular 230
1-
64.
a. Best practices are discussed in Subpart B, § 10.33.
b. The return of client‘s records is discussed in Subpart B, § 10.28.
c. Tax return positions are discussed in Subpart B, § 10.34.
d. Due diligence is discussed in Subpart B, §
10.22. Circular 230
1-65. a. SSTS No. 1. In preparing a tax return, a member should have a good-faith belief that a
recommended position has a realistic possibility of being sustained if challenged;
otherwise such a position should not be recommended by the member.
b. SSTS No. 4. A member may prepare tax returns that involve the use of the taxpayer‘s
estimates if it is impractical to obtain exact data and if the estimated amounts appear
reasonable to the member.
c. SSTS No. 6. The member must advise the taxpayer promptly, whether or not the
member prepared or signed the return in question, when he or she learns of an error in
a previously filed tax return, an error in a return that is the subject of an administrative
proceeding, or a taxpayer‘s

18 SOLUTIONS MANUAL
failure to file a required return. However, the member is neither obligated to inform the
IRS of the situation nor may he or she do so without the taxpayer‘s permission, except
as provided by law.
Pages 22–25
1-66. a. Lowell Bar Association v. Loeb. The preparation of ―simple‖ tax returns did not
constitute the unauthorized practice of Massachusetts law because tax return
preparation could not be identified as strictly within the legal discipline.
b. Bercu. The court held that Bercu could have provided tax advice if it had been
incidental to the tax return work he regularly performed for his clients.
c. Sperry v. Florida. The U.S. Supreme Court held that a Federal statute that admitted
nonattorneys to practice before Federal agencies (in this case, the Patent Office) took
precedence over state regulation, thus CPAs and EAs were not engaged in the
unauthorized practice of law when they were giving tax advice.
Pages 34-35
1-67. False. See Circular 230, § 10.29.
1-68. True. See Circular 230, § 10.7.
1-69. These fees would all be contingent fees if the IRS challenges a tax position. Under Circular
230 §
10.27 A, Contingent fee is any fee that is based, in whole or in part, on whether or not a
position taken on a tax return or other filing avoids challenge by the IRS or is sustained
either by the IRS or in litigation. A contingent fee includes a fee that is based on a
percentage of the refund reported on a return, which is based on a percentage of the
taxes saved, or that otherwise depends on the specific result attained.
Circular 230
1-70. Circular 230, § 10.32 (Practice of law) states that, ―Nothing in the regulations in this
part may be construed as authorizing persons not members of the bar to practice
law.‖
Circular 230
1-71. d. Under Rule 1.100.001 of the AICPA Code of Conduct, CPAs cannot make self-laudatory

Edition Page 1-19
statementsnot based on verifiable facts.
Page 20
1-72. c. See Circular 230, § 10.30.
1-73. c. Under Rule 1.800.001 of the AICPA Code of Conduct, CPAs cannot practice public
accounting under a firm name that is misleading. A sole practitioner is not a company.
The only exception is when a sole practitioner survives the death or withdrawal of all
other partners or shareholders; he or she can continue to practice under a firm name
for up to two years after becoming a sole practitioner.
Page 20
1-74. b. SSTS No. 4 allows a member to use reasonable estimates in the preparation of a tax
return.
Pages 23-24
1-75. d. Under Rule 1.510.001of the AICPA Code of Conduct, CPAs are allowed to take
contingent fees in tax matters if they are based on judicial proceedings or the findings
of governmental agencies.
Page 18
1-76. c. Under Rule 1.700.001 of the AICPA Code of Conduct, CPAs cannot reveal
confidential client information without the consent of the client unless it is to an
investigative body, trial board, quality review body, or court of law.
Pages 19-20
1-77. a. SSTS No. 4 requires members to disclose to the IRS the use of estimates when fire or
computer failure has destroyed the relevant records.
Pages 23-24
1-78. d. Under Subpart A, § 10.7(c)(2)(i) of Circular 230, persons who are disbarred or
suspended are not allowed to practice before the IRS.

20 SOLUTIONS MANUAL
Circular 230
1-79. b. Under Subpart B, § 10.21 of Circular 230, practitioners must notify
clients of any noncompliance with the tax law. A similar rule is found in
SSTS No. 6.
Page 11
1-80. a. Circular 230, Subpart A, § 10.7(a) states that a taxpayer can appear on their own
behalf before the IRS.
b. 1.520.001 Commissions and Referral Fees Rule
c. SSTS No. 3 Certain Procedural Aspects of Preparing Returns
d. Under Statement on Standards for Tax Service (SSTS) No. 1, a member must have a
good-faith belief that a recommended position has a realistic possibility of being
sustained if challenged.
Circular 230, Pages 20, 22, 24
1-81. a. Circular 230, Subpart C, § 10.51 states that a practitioner can be disbarred or
suspended from practice before the IRS for disreputable conduct.
b. The knowledge of client omissions rule is found in Circular 230, Subpart B, § 10.21.
c. 1.400.200 Records Requests. Members must comply with the rules and regulations of
authoritative regulatory bodies, such as the members‘ state board(s) of accountancy,
when they perform services for a client and are subject to the rules and regulations of
such a regulatory body.
d. SSTS No. 5 Departure from a Position Previously Concluded in an Administrative
Proceeding or Court Decision
e. Under Statement on Standards for Tax Services (SSTS) No. 7, a member must use
judgment that reflects professional competence and serves the taxpayer‘s needs.
Circular 230, Pages 22-26
1-82. The parts of the EA exam are as
follows: Part 1: Individual Income
Taxes
Part 2: Businesses
Part 3: Representation, Practices, Procedures

Edition
Visit www.irs.gov for more information on the EA exam.
Page 1-21
1-83. The Application for Enrollment to Practice Before the IRS is Form 23.
1-84. a. California: Minimum three semester or four quarter units in accounting ethics or
accountants‘
professional responsibilities
b. Texas: The board requires that 3 passing semester hours be earned as a result of
taking a course in ethics.
c. North Carolina: The 150 semester hours required include a concentration in
accounting, as defined by 21 NCAC 08A .0309, and 24 semester hours of
coursework, which include one 3 semester hour course from at least 8 of the
following 10 fields of study: communications, computer technology, economics,
ethics, finance, humanities/social science, international environment, law,
management, or statistics.
CHAPTER 2
TAX RESEARCH METHODOLOGY
2-1. The primary purpose of tax research is to aid in finding solutions to tax problems.
Page 46
2-2. The basic steps in conducting tax research include the following:
Establish the Facts: This step involves the gathering of facts, including tax and nontax
considerations.
Identify the Issues: The tax researcher must identify both issues of fact and issues of law.
In so

22 SOLUTIONS MANUAL
doing, the researcher must rely on a combination of education, training, and
experience.
Locate the Appropriate Authority: The researcher must locate authority relevant to the
client‘s
situation. Authority may include both primary and secondary authority.
Evaluate the Authority: This step in the tax research process requires the researcher to
analyze the authority, including the current status of the authority and the precedential
value of the authority.
Develop Conclusions and Recommendations: The researcher must arrive at his or her
conclusions based on the first four steps of the tax research process.
Communicate the Recommendations: The final step in the research process is to
communicate to the client the facts, assumptions, issues, sources of authority, and
conclusions and recommendations.
Pages 47-56
2-3. First, the researcher must understand the mechanical techniques that are used to identify and
locate the tax authorities that relate to solving a problem. Second, the researcher must be
creative and explore all of the relevant relationships among the facts and the problems at
hand.
Page 50
2-4. Significant tax facts that a tax practitioner might want to obtain could include any of the
following: The client‘s tax entity(ies).
The client‘s family status and stability.
The client‘s past, present, and projected marginal tax rates.
The client‘s legal domicile and
citizenship. The client‘s motivation for
the transaction.
Relationships among the client and other parties involved in the
transaction. Whether special tax rules apply.
Whether the transaction is proposed or completed.
Pages 47-48

Edition Page 1-23
2-5. The researcher should be aware of the following pitfalls:
1. The researcher may attempt to research a problem before fully understanding
the facts and circumstances relevant to the client‘s situation.
2. Often the researcher may have a tendency to ignore new questions that
arise as the research task progresses.
3. The client may fail to provide all of the information that is vital to an accurate
solution.
4. The tax researcher may approach a tax problem without considering other
constraints on the solution to the problem, such as economic factors or
personal preferences of the client.
Page 47-48
2-6. a. T (lower tax liability)
b. NT (economic constraints)
c. NT (personal preference)
d. NT (personal preference)
e. NT (personal preference)
2-7. a. NT (personal preference). Might also be classified as T, since the taxpayer‘s motivation for
a
potential transaction is known
b. NT (personal preference)
c. NT (family preference)
d. T (lower tax liability)

24 SOLUTIONS MANUAL
e. T (lower tax liability)
2-8. Research issues can be divided into two major categories, namely, fact issues and law issues.
Fact issues are concerned with problems such as the dates of the transactions, the amounts
involved in an exchange, reasonableness, intent, and purpose. Law issues arise when the facts
are well established, but it is not clear which portion of the tax law applies.
Page 48
2-9. The legal concept of collateral estoppel bars relitigation on the same facts or the same issues.
Therefore, the tax practitioner must be certain that his or her case is researched fully and no
issues have been overlooked. If an issue is not addressed in the original case, it may be lost
forever.
Page 49
2-10. The researcher must be aware of changes that occur over time, which might affect the
outcome of the research. Applicable law or facts might be subject to changes that will cause
the researcher to arrive at different conclusions and recommendations, even concerning
completed research activities.
2-11. All tax authorities do not carry the same precedential value. The tax researcher must consider
the source of the authority, including whether the source of authority is a primary or a
secondary source, and the force of the authority. Primary authority comes from statutory,
administrative, and judicial sources. In fact, statutory authority is the basis for all tax provisions.
Secondary authority consists of unofficial sources of tax information, such as tax journal articles,
textbooks, and newsletters. The researcher should be cautious in relying upon secondary
authority, which does not have precedential value, but which may be of assistance in clarifying
or explaining the primary authority. In addition, the researcher must take into account new
issues that have developed since the date of the authority.
Pages 51-52

Edition Page 1-25
2-12. Statutory sources include the Constitution, tax treaties, and tax laws that have been passed by
Congress. Administrative authority includes the various rulings of the Treasury Department
and the IRS. Judicial authority consists of the collected rulings of the various courts on
federal tax matters.
Pages 52-53
2-13. a.
b.
P
P
c.
d.
e.
S
P
P
Pages 51-52
2-14. a. P
b. P
c. P
d. S
e. S
Pages 51-52
2-15. a. S
b. S
c. P
d. P
e. S
Pages 51-52
2-16. A citator is a reference source that enables the researcher to follow the judicial history of court
cases.
Page 53
2-17. A tax service is a coordinated set of reference materials that organizes the tax authority into
a useable format, making the Internal Revenue Code more accessible.

26 SOLUTIONS MANUAL
Page 58
2-18. a.
b.
TAXES: General tax practitioners
Journal of Taxation: Sophisticated tax practitioners
c. Practical Tax Strategies: General tax practitioners
d. The Tax Adviser: Members of the AICPA and other tax practitioners
e.
Page
55
The ATA Journal of Legal Tax Research: Tax academics and practitioners
2-19. All tax authority does not carry the same precedential value. In the process of evaluating the tax
authority for the issue under consideration, it is possible that new issues, not previously
considered, may become known. In this case, the researcher may be required to gather
additional facts, find more pertinent authority, and evaluate the new issues.
Pages 51-52
2-20. If a clear solution to a tax research problem has not been obtained, the practitioner must use
professional judgment as to the proper conveyance of the research results to the client. In
addition, the client might be informed of the alternative possible outcomes of the disputed
transaction and give the best acceptable recommendation.
Page 55
2-21. Include the following items in both the memorandum to the client file and the client letter:
1. A restatement of the pertinent facts from the researcher‘s perspective.
2. A summary of any assumptions that the researcher made in the course of his or her
research.

Edition Page 1-27
3. A summary of the issues addressed in the research process.
4. The applicable authority used to arrive at the researcher‘s conclusions and
recommendations.
5. The researcher‘s conclusions and recommendations.
Generally, the memorandum to the client file will contain significantly more details than the letter
to the client.
Pages 56-57
2-22. Yes. In many research situations, a fact generates an issue that in turn may lead to an answer or
the need for more facts. Similarly, once an answer is found to an issue, it may also cause a new
issue to appear or the need to gather more information. The same situation occurs in evaluating
authority. Frequently, there will be ambiguity between items of authority that will require the
researcher to use his or her critical thinking skills. This may result in new issues becoming
known. The researcher would then be required to gather additional facts, find additional
pertinent authority, and evaluate the new issues.
Page 50
2-23. Substantial Authority under Reg. § 1.6662-4(d)(3)(iii) includes the following:
a. The Internal Revenue Code and other statutory provisions
b. Proposed, temporary, and final regulations
c. Revenue rulings and procedures
d. Tax treaties and regulations there under
e. Court cases

28 SOLUTIONS MANUAL
f. Congressional committee reports
g. The Blue Book
h. Private Letter Rulings issued after 10/31/76
i. Technical Advice Memoranda issued after 10/31/76
j. General Counsel Memoranda issued after 3/31/81
k. IRS Information and Press Releases
It is important to be familiar with the above sources because any position documented based on
these authorities will prevent accuracy-related penalties associated with the item or return under
review.
Page 52
2-24. Online tax research systems provide a fast, cheap method for tax practitioners to access tax
information that he or she could not afford to buy before the use of computers. Today‘s online
systems allow the distribution of tax research information and entire tax services to multiple tax
staff in both small and large CPA firms. They are accessible through the Internet and several
public telecommunications networks. The materials that are available with these services are
contained in databases that are stored at centralized computer locations. These databases may
be accessed from remote locations with the use of a variety of compatible video devices and
keyboards. Usually, they can be accessed via compatible handheld devices and computers that
the user already owns.
Advantages of such a system over a standard printed service are the ability on the part of the
user to index any significant item by using it as a search item in a query, and the ability for the
user to tailor his or her query to fit the requirements of a specific tax problem, which can result
in the research process being conducted with greater speed and thoroughness; that online
services are updated much faster than printed tax services; that they are particularly useful in
researching case law, since every word contained in a case is included in the database, which in
turn enables the user to save time by directly accessing only those cases that contain the key
terms of his or her search, that certain documents may be obtained only from the central
computer library, and that it can be used to obtain regularly published documents to which the
researcher does not have access.

Edition Page 1-29
Pages 58-59
2-25. Any of the following could be examples of Web addresses of three free online Internet sites where
someone could find information on various aspects of taxation:
 http://taxsites.com
 www.irs.gov
 http://thomas.loc.gov
Page 53
2-26. Citations not only document a preparer‘s research and provide a trail for reviewers to follow but
also to support that the preparer has met the substantial authority standard. Citations in a
memo immediately signal to a reader the types of documents and level of authority a researcher
is relying upon.
Page 56
2-27. a. Thomson Reuters Checkpoint: A Web-based tax research service that contains research
material on federal, state, local, and international taxation. Checkpoint contains
analytical material such as the Tax Coordinator 2d and the United States Tax Reporter.
b. CCH AnswerConnect: A Web-based tax research service that contains CCH‘s tax services
(Tax Research Consultant and Federal Income Tax Reporter) and other federal, state,
local, and international legal and tax information.
c. LexisAdvance Tax: Besides containing all federal and state tax research material,
LexisNexis provides access to expert analytical materials from CCH, Tax Analysts, and
BNA. In addition, LexisNexis has extensive libraries of newspapers, magazines, journals,
and
patent records and medical, economic, and accounting databases.
d. Westlaw and WestlawNext contain all federal, state, local, and international legal
sources, including court cases, administrative releases, and statutory
information. All government documents (e.g., IRS publications, court cases) are
also available on this system.
Page 54

30 SOLUTIONS MANUAL
2-28. The disadvantages of using a computerized tax service include the high cost of conducting a
search and the broad nature of the database.
The database includes all of the pertinent documents needed to conduct a thorough tax research.
However, a computerized tax service does not normally include any type of indices; therefore,
the researcher must determine the keywords to utilize in his or her search request. If the
request is not properly structured, the researcher will not locate the pertinent documents.
Pages 62-63
2-29. Developing an effective search request requires that the researcher perform the following:
1. State the issue in the form of a question
2. Identify the keywords
3. Construct a computer research query
4. Select database and execute search
5. Interpret and refine the
search Pages 59-62
2-30. To reduce the number of retrieved documents to a reasonable number, the researcher should
modify his or her request, usually by editing the last request transmitted to one that is narrower
in scope and utilize more unique keywords.
Page 61
2-31. The checkpoint search connectors discussed in the text are as follows:
 and: Finds documents with both chosen keywords in them
 or: Finds documents with either chosen keywords in them
 /n: Finds documents where the first chosen term is within ‘n‘ words of the second chosen
term
 not: Finds documents with the term that precedes the connector but not the term following
the

Edition Page 1-31
connector
Page 60
2-32 (1) Primary
(2) Primary
(3) Primary
(4) Secondar
y Page 51-
52
2-33. ―Engagement Time Cost‖ could impact an engagement by making the research costly for the client.
Page 62
2-34. The ―Potential Tax Liability‖ in a situation by making the research cost exceed the tax savings.
Page 62
2-35. The ―Accuracy Threshold‖ could impact how much time is spent on the project. As a general rule,
the more accuracy needed by the client, the more research that needs to be done to reach a
higher level of client comfort.
Page 62
2-36. ―Professional Ethics‖ could impact a tax engagement by requiring the researcher to achieve an
appropriate comfort level for the research conclusion.
Page 63
2-37. The four parts of the Uniform CPA Exam are as follows:
1. Auditing and Attestation (AUD)
2. Business Environment and Concepts (BEC)

32 SOLUTIONS MANUAL
3. Financial Accounting and Reporting (FAR)
4. Regulation (REG)
The tax issues covered in the REG section of the Uniform CPA Exam include processes, procedures,
accounting, and planning as well as federal taxation of property transactions, individuals, and
entities. Ethics and professional and legal responsibilities are key components of the section,
requiring that candidates be familiar with Treasury Department Circular 230, the AICPA
Statements on Standards for Tax Services, and relevant IRS Code sections and regulations.
Page 63
EXERCISES
2-38. All can be found online (however, a researcher may have to pay a subscription fee for access to
them). For the second part of the question, the answer will vary by individual school campus
library.
2-39. All responses and answers will vary with the availability of tax research services available for
student use on your campus. Information regarding how students can gain access to the system
for research projects in your classes should be obtained by the instructor. If the tax research
service is not available on your campus, the student will state so.
2-40. Form 3903 and its instructions deal with moving expenses. IRS forms and publications can be
accessed at https://www.irs.gov/forms-pubs.
2-41. IRS Publication 3 is the Armed Forces‘ Tax Guide. IRS forms and publications can be accessed at
https://www.irs.gov/forms-pubs.
2-42. IRS Publication 575 deals with Pension and Annuity Income. IRS forms and publications can be
accessed at https://www.irs.gov/forms-pubs.
2-43. Form 1040-PR can be found at https://www.irs.gov/forms-pubs.
2-44. Publication 1542 is no longer updated by the IRS. Instead, the IRS updates per diem rates in
annual (or more frequent) IRS Notices. At the time of the book‘s printing, the most recent
IRS Notice was Notice

Edition Page 1-33
2016-58.
2-45. Answers will vary over time.
2-46. Issues that may be relevant in determining the tax consequences of these transactions include the
following:
1. Does the condemnation of the land constitute an involuntary conversion of § 1231
property?
2. If gain is realized, how is it computed?
3. If gain is recognized, is it ordinary income or capital gain?
4. Can any of the gain be deferred?
5. How is the award for damages treated?
following:
1. Who has the liability for the tax on the $75,000, John, Marsha, or both?
2. Could John and Marsha‘s other income have any impact on the taxability of the $75,000?
3. Did John receive any benefit from the income and how might that affect any income tax
liability?
4. Do John and Marsha live in a community property or common law state and what
impact would that have on any tax liability?
5. If John reimburses the bank for the $75,000, is it deductible to him?
2-48. Issues that may be relevant in determining the tax consequences of these transactions
include the following:
1. Is the receipt of the restricted stock compensation to Dave?

34 SOLUTIONS MANUAL
2. Is there any gain realized on the receipt of the stock? If so, how is the gain computed?
3. If gain is recognized on the receipt of the stock, is it ordinary income or capital gain?
4. Can any of the gain be deferred? If so, how?
5. What is Dave‘s basis in the restricted stock?
6. If Dave sells the stock after seven years, how will any gain or loss be taxed?
following:
1. What are the tax consequences of rents received in advance?
2. Is Ericka a cash or accrual basis taxpayer?
3. If she is a cash basis taxpayer, how is the rent treated?
4. If she is an accrual basis taxpayer, how is the rent treated?
5. How are any expenses (e.g., depreciation and real estate taxes) associated with the
rental income treated?
2-50. The query should include several of the following
keywords: redemption
call
proceeds
tax-
exempt
bonds
municipal
2-51. The query should include several of the following keywords:

Edition Page 1-35
treaty
Germany
fellowship income
fellowship grant
internship
Examples of queries include the following:
―Treaty Germany‖/10 & fellowship or internship
(CheckPoint) Treaty w/10 Germany and fellowship or
internship (Lexis)
2-52. The query should include several of the following
keywords: capitalize
fringe
benefits
overhead
build
building
slack time
idle time
employee
employee
costs
addition
factory
capitalize & overhead & fringe /3 benefits (CheckPoint)
capitalize and overhead and fringe w/3 benefits (Lexis)
2-53. The query should include several of the following keywords:

36 SOLUTIONS MANUAL
retroactive
election
accounting
accounting methods
―accounting /20 method‖ and retroactive* (CheckPoint)
accounting w/20 method and retroactive (Lexis)
2-54. Suitable search queries might be:
constructive /10 dividend (CheckPoint)
constructive w/10 dividend (Lexis)
2-55. a. Issues that may be relevant in determining whether Sam Manuel may deduct the losses
from his
―activity‖ includethefollowing:
1. Is the activity considered a hobby or a business activity?
2. Is the fact that Mr. Manuel previously operated the activity on a full-time basis
relevant to the question of whether the loss is deductible?
3. Does the taxpayer have the burden of proof in determining whether the
activity is operated for income or profit?
4. Does Mr. Manuel have to establish a profit motive for each year that losses are
incurred, or once a profit motive is established is this adequate proof for
subsequent years?
5. Is the fact that the activity was conducted on a part-time basis by Mr. Manuel,
who was a full-time employee of another entity, indicative that the activity must
be a hobby and not a business carried on with intent to earn a profit?

Edition Page 1-37
6. How much of his time does Mr. Manuel spend on this activity?
7. Does Mr. Manuel invest a significant amount of his money and other
resources for the activity?
8. Does Mr. Manuel advertise and otherwise solicit buyers for his products?
9. Can Mr. Manuel substantiate the expenditures that he has incurred?
10. Does Mr. Manuel keep detailed accounting records for the activity separate
and apart from his other activities?
11. Is a reasonable expectation of making a profit required in order to determine
whether an activity is a trade or business?
b. Examples of keywords: hobby, business, activity, losses, employee, profit
2-56. a. Issues relevant to the tax treatment of the payment received by the partner include the
following:
1. Was the $125,000 payment received by Matthew Broadway a distribution in
liquidation of his partnership interest?
2. If the payment is a payment in liquidation of Matthew‘s partnership interest,
should the amount be treated as ordinary income or should the amount be
treated as received in exchange for his interest in the partnership?
3. Will the entire payment be subject to the same tax treatment, or should
$45,000 of the payment, representing the settlement of the fee dispute, be
treated differently from the remainder of the payment?
4. Does the partnership use the cash or the accrual basis of accounting for tax
purposes?
5. Under the partnership‘s method of accounting, when would the fee income be
included in the partnership‘s ordinary income?
6. Was the fee accounted for in the partnership‘s prior year return or was the fee
included in

38 SOLUTIONS MANUAL
partnership income only upon settlement of the dispute in the year following the
year of receipt?
7. Does the fact that the fee was placed in an escrow account until the dispute
was settled influence the proper time for including the fee in income?
8. Does the constructive receipt doctrine apply to the partnership?
9. Does the assignment of income doctrine apply in this case to make the fee
income taxable to Matthew Broadway, the partner who is withdrawing?
b. Examples of keywords: accrual, cash, accounting, partnership, distribution, constructive
receipt
2-57 a. Issues which may be important in determining the allocation of the costs among the
lots include the following:
1. Is the increase in fair market value of improved property indicative of the
benefits derived by the property?
2. What was the taxpayer‘s purpose behind making the improvements?
3. Does the taxpayer intend to sell all six of the lots?
4. Do the street, water, and sewer improvements benefit the three undeveloped lots?
5. What was the fair market value of each lot immediately after the subdivision but
prior to the improvements?
6. Are certain of the lots more desirable because of easier access, etc?
7. Is the relative sales price of each of the three single-family homes relevant for
allocating the construction costs?
b. Examples of keywords: improvements, subdividing, real estate, realty, costs

Edition Page 1-39
2-58. a. Issues that may be relevant to the tax treatment of the proceeds from the sale of the
home include the following:
1. Can Tom take advantage of the § 121 exclusion from the sale of a primary
residence?
2. If Tom‘s gain is taxable, can he take advantage of the installment sale provisions?
3. If the property has previously been used for business (i.e. rental or home
office), will there be any depreciation recapture?
4. What is the basis of the old home?
5. How was title of the old home held by Tom and his wife?
6. Does the divorce decree specify anything other than a 50/50 split of the
residence between Tom and his wife?
b. Examples of keywords: divorce, decree, house, residence, gain, exclusion, occupies, § 121
2-59. a. Additional information that would be helpful in this situation, based on relevant
factors for determining a profit motive as listed in Regulation § 1.183-2, includes
the following:
1. Does Vinny plan to continue his medical practice while he works on his winery?
2. If he does plan to continue working at his medical practice, does he plan to
continue full time?
3. How much time and effort are he and/or his family members planning to
devote to the winery?
4. If other family members will be helping with the winery, will they be leaving
their occupations to have more time to help out?
5. Does he plan to carry on the winery endeavor in a business-like manner,
keeping books and records, etc.?

40 SOLUTIONS MANUAL
6. Did the taxpayer attempt to acquire knowledge about the winery business
or talk to experts in the field?
7. Is the couple‘s wealth sufficient to maintain them if future profits don‘t materialize?
8. Does Vinny derive little personal or recreational pleasure from this activity?
b. Additional questions posed to the taxpayer.
c. No. What Vinny‘s two children now do for a living is irrelevant.
d. Will the winery be considered by the IRS to be a bona fide business with a profit motive
or merely a hobby?
e. Additional research questions might include the following:
1. Is the taxpayer close to retirement age, and if so, how much will his
retirement income be?
2. How much in losses is the business expected to incur in the start-up years?
3. What were the start-up costs?
4. Where did the investment money come from?
5. What is the tax-entity form of the business?
6. What is the taxpayer‘s past, present, and projected marginal tax rates?
7. Are there special tax rules that apply to the winery business?
2-60. a. Additional information that would be helpful in this situation includes the following:
1. Was there any oversight of the accountant by the home office or by a CPA?
2. What types of internal controls, if any, were in place to prevent the embezzlement?

Edition Page 1-41
3. Was there an audit performed by competent outside auditors?
4. What system, if any, did the taxpayer have in place to receive and review
payroll tax deposits and remittances?
b. From additional questioning of the taxpayer.
c. Yes
d. N/A
e. Did the taxpayer exercise ―ordinary business care and prudence in providing for the
payment of its tax liabilities‖ by establishing oversight of the manager‘s actions to the
extent that, as a result,
relief is mandated by the statute, warranting abatement of the penalties due to ―reasonable cause‖?
f. Additional research questions might include the following:
1. Has the taxpayer already submitted an offer in compromise to the IRS?
2. Have there been any arrangements made for the accountant to repay the
embezzled funds?
3. If so, has the taxpayer remitted any funds to the IRS and, if so, how much?
4. Does the taxpayer have an unblemished history of making past payroll tax
deposits on time?
2-61. a. Additional information that would be helpful in this situation include the following:
1. What was the date of the divorce?
2. Is there a divorce decree that calls for the monthly fixed payments of $12,000?

42 SOLUTIONS MANUAL
3. If so, does the divorce decree stipulate what the payments are for?
4. Are there any children involved from the marriage, and if so, is any of the
$12,000 considered provision for child support?
5. Is the taxpayer legally required to continue the monthly payments after death
of the ex- spouse?
6. Are the monthly payments being made in cash or property?
b. From additional questioning of the taxpayer.
c. The taxpayer‘s age is not necessarily significant to this issue.
d. Are tax payments on payments to an ex-spouse deductible?
d. Additional research questions might include the following:
1. What is the ex-spouse‘s financial situation, and has it changed significantly since
the
divorce?
2. Has the ex-spouse since remarried?
3. Was there a prenuptial agreement?
4. Have the taxpayer‘s been living in the same household since the
divorce? 2-62. a. The primary tax issues involved with this case are as follows:
1. Are lottery winnings considered ordinary income or capital gains?
2. What is the basis of a winning lottery ticket?
3. Is the assignment of rights to the winning to a third party considered
constructive receipt of the winning to the taxpayer?

Edition Page 1-43
4. Is the assignment of rights to a third party considered a capital investment?
b. Examples of keywords the following:
lottery
installments
future
investment
gross income
capital gain
lump-sum
ordinary
income
2-63. a. The primary tax issues involved with this case are as
follows:
1. Are there any restrictions on starting a business on an Indian Reservation?
2. Can an Indian tribe be a shareholder in an S corporation?
3. Is the Indian tribe a federally recognized tax-exempt organization?
4. What restrictions are there on tax-exempt organizations in S corporations?
5. Is an Indian tribe considered an ―individual‖ for federal income tax purposes?
b. Examples of keywords include the following:
Indian tribe
individual
shareholder
S
corporation
tax-exempt
tribal government
eligible
CHAPTER 3 CONSTITUTIONAL
AND LEGISLATIVE SOURCES

44 SOLUTIONS MANUAL
3-1. In Pollock v. Farmers’ Loan and Trust Co., the Supreme Court held that the income tax was
unconstitutional, because it was a constitutionally prohibited direct tax. Supporters of the income
tax proposed an amendment to the Constitution in order to dispense with the question of the
constitutionality of the income tax. As a result, the 16th Amendment to the Constitution was
ratified.
Page 77
3-2. The 16th Amendment was ratified on February 3, 1913 and eliminated the claim that the
Federal income tax was unconstitutional. Evidence of this fact can be found in the terminology
of the amendment:
―The Congress shall have the power to lay and collect taxes on incomes, from whatever sources
derived, without apportionment among the several States, and without regard to any census or
enumeration.‖
Page 77
3-3. The first U.S. Federal income tax was passed on August 5, 1861 to help the North pay for the
cost of fighting the Civil War. It was allowed to expire in 1872. In 1894, another income tax act
was passed by Congress, but the Supreme Court ruled it was unconstitutional as a prohibited
―direct tax.‖ The supporters of the income tax decided to amend the Constitution so that there
would be no question as to the constitutionality of a Federal income tax. The proposed
amendment was sent to the states on July 12, 1909 and ratified on February 3, 1913.
Pages 76–77
3-4. In Flint v. Stone Tracy Co., the Supreme Court held that the corporate income tax passed in
1909 was constitutional because it was a special form of excise tax, rather than a direct
tax.
Page 77
3-5. Under Code § 6702, the maximum penalty a taxpayer is subject to is a $5,000 fine for filing a
frivolous tax return as a form of protest against the IRS. This fine would be levied if the taxpayer
files a blank tax return accompanied by a note suggesting that the Federal income tax is
unconstitutional or that the taxpayer wishes to protest against the high percentage of tax
revenues used to create nuclear weapons.

Edition Page 1-45
Internal Revenue Code (IRC) § 6673 levies a penalty, not to exceed $25,000, if a taxpayer
brings a frivolous matter before the Tax Court. This fine might be applied when the
proceedings are found to have been instituted primarily to delay the revenue collection process
and where the taxpayer‘s grounds for bringing the proceedings are found to be frivolous or
groundless.
Page 79
3-6. The Constitution is the source of all of the federal tax laws of the country. The Constitution
expressly provides that Congress may not impose export taxes but may impose import taxes. In
addition, the constitutional rights of due process and privacy of the citizen apply in tax, as well
as nontax, environments.
The Constitution also requires that taxes imposed by Congress be uniform from state to state.
Direct and per capita taxes are prohibited unless the revenues generated are apportioned to the
population of the states from which they were collected.
Pages 79-80
3-7. Tax treaties are agreements negotiated between countries concerning the treatment of
individuals and companies subject to the tax laws of multiple countries. The primary purpose of
these treaties is to eliminate the ―double taxation‖ that the taxpayer would face if his or her
income were subject to tax in more than one country. Any tax matter may be covered in a tax
treaty. Estate and gift taxation, withholding, and multinational corporate taxation problems can
be addressed in a tax treaty.
Page 81
3-8. Generally, when a tax treaty provision and an IRC provision conflict, the provision adopted later
in time will prevail. The major exceptions to this rule are treaty provisions, which existed prior
to enactment of the 1954 Code; such treaty provisions prevail over the existing provisions of the
1954 Code but not over later amendments to the 1954 Code.
Page 84

46 SOLUTIONS MANUAL
3-9. According to Article II, § 2 of the U.S. Constitution, the president creates treaties with other
countries after receiving the advice and consent of the Senate.
Page 81
3-10. Tax treaties can be found in both the online and printed versions of most tax services, the IRS
Website, the Treasury Department, or the U.S. State Department.
Page 82
3-11. Tax legislation generally begins in the Ways and Means Committee of the House of
Representatives. The approved bill is then voted on by the full House of Representatives. The bill
is then sent to the Senate Finance Committee, and after the bill is approved by the Finance
Committee, it is voted on by the full Senate. The Joint Conference Committee resolves
differences in the House and Senate versions of the tax bill, after which the revised bill must be
approved by both the House and the Senate. The approved bill is then signed into law by the
president and incorporated into the IRC, assuming the president does not choose to veto the bill.
Page 85
3-12. Committee reports usually are available for the deliberations of the Ways and Means
Committee, the Finance Committee, and the Joint Conference Committee.
Page 85
3-13. Committee reports are an important tool for tax researchers in situations where the tax law is
unclear, or when recent legislation has been passed. The committee reports generally explain
the elements of the proposed changes to the tax law and the reasons for the proposals. The
committee reports can provide insight concerning the meaning of a specific phrase of the
statute or the intention of Congress concerning a certain provision of the law.
Page 85
3-14. Committee reports are referred to by public law number and every bill that is passed by
Congress is assigned such a number. In P.L. 100-203, the prefix refers to the 100th session of
Congress that passed the law. The suffix indicates this is the 203rd bill that this session of
Congress adopted.

Edition Page 1-47
Page 86
3-15. When new tax legislation is passed, the pertinent committee reports are printed in the Internal
Revenue Service‘s weekly Internal Revenue Bulletin. The text of the committee reports
pertaining to the 1954 Code can be found in the 1954 United States Code Congressional and
Administrative News. All of the pre-1939 Revenue Act Committee Reports are reprinted in the
1939 Cumulative Bulletin.
PUBLISHER PUBLICATION
GPO Cumulative Bulletin (pre-2009 years only)
BNA Primary Sources (since 1968 only)
CCH Public Law Legislative History
RIA RIA Checkpoint
RIA and Commerce Clearing House also publish a collection of committee reports (or excerpts
thereof) whenever a major new tax law is passed. To find the appropriate committee reports
that pertain to a particular statutory provision, the tax researcher can use reference materials
that are included in most commercial tax services, or the index to the Cumulative Bulletin.
Page 88
3-16. The floor debate report may also be useful to the tax researcher in that the report includes a
summary of the floor discussions concerning the proposed bill. Where additional detailed
information regarding the development of a provision is needed, the floor debate report may be
of value.
Page 88
3-17. After the 16th Amendment was ratified in 1913, Congress passed a series of revenue acts, each
of which formed the entire income tax law of the United States. During the next two decades,
Congress passed an additional revenue act every year or two. During the 1930s, this series of
revenue acts and the task of rewriting frequently the entire tax statute had become
unmanageable. Consequently, Congress replaced the revenue acts with the IRC of 1939.

48 SOLUTIONS MANUAL
One major problem with the IRC of 1939 was the numbering system that was used. Specifically,
the 1939 codification‘s numbering system did not leave adequate room for subsequent changes
to the law. Therefore, the 1939 Code was replaced with a reorganized, more flexible codification
in 1954. Due to extensive revisions to the code made as a part of the Tax Reform Act of 1986,
the statute was renamed the IRC of 1986, which, as amended, constitutes the current tax law of
the United States.
Page 88
3-18. The major subdivisions of the code include the following:
1. Subtitles
2. Chapters
3. Subchapters
4. Parts
5. Sections
6. Subsections
Page 89
3-19. Subtitles of the code are assigned a capital letter as a form of identification. Generally,
each subtitle contains all of the tax provisions that relate to a well-defined area of the tax
law.
Page 90
3-20. In the citation § 101(a)(2)(B), the (a) stands for subsection (a), the (2) stands for paragraph
(2), and the (B) stands for subparagraph (B) of § 101.
Pages 92-93
3-21. In the citation § 1031(a)(3)(B), the (a) stands for subsection (a), the (3) stands for paragraph
(3), and the (B) stands for subparagraph (B) of § 1031.
Pages 92-93
3-22. There are some exceptions to the general formatting of code section citations. For example,
Congress has inserted code sections in between other consecutive sections and has had to use
a capital letter (e.g., §

Edition Page 1-49
25A(b)(1) or § 280F(a)(1)) to accomplish this. Also, the code skips the subsections in certain
cases, such as
§ 212(2).
Page 92
3-23. Corporations are located in Subchapter C. Mutual funds are located in Subchapter M.
Tax-exempt organizations are in Subchapter F.
Page 91
3-24. § 61 of the code contains the statute for the definition of gross income, § 163 for the interest
deduction, and
§§ 167, 168, and 169 for depreciation and cost
recovery. Page 94
3-25. Section 152 of the code contains the statute for the definition of a dependent, § 166 for
a bad debt deduction, and § 7701(a)(3) for alimony payments.
Page 95
3-26. These words have very different logical meanings, and, even when the words are ―hidden‖ at the
end of the previous clause or subparagraph, they may significantly change the outcome of a
research project. The word ―and‖ is conjunctive; the word ―or‖ is disjunctive. If the word ―and‖
lies between two phrases, both of them must be true for the provision to apply to the client‘s
problem. However, if the word ―or‖ lies between two phrases, then only one of them must be
true for the provision to apply.
The researcher must also be careful with words that modify percentage or dollar amounts. The
phrases ―less than 50 percent,‖ ―more than 50 percent,‖ and ―not less than 50 percent‖ have
very different meanings in determining whether the provisions of a section apply.
Pages 96-97
3-27. It is true that not all statutory tax law is found in the IRC. Tax treaties and federal laws other
than the code are two other statutory sources of tax law.
Page 99

50 SOLUTIONS MANUAL
EXERCISES
3-28. a. Title 26
b. Subtitle A
c. Chapter 1
d. Subchapter
B Page 91
3-29. a. Title 26
b. Subtitle A
c. Chapter 1
d. Subchapter
P Page 91
3-30. a. Answers will vary with time. Because of the scale of the 2017 Tax Cuts and Jobs Act and the
relative dearth of tax legislation through the date of publication, many of the most recent
committee reports will refer to P.L. 115-97. An example of the public law associated with a
recent conference committee report is
P.L. 115-97, which requires the use of the Chained Consumer Price Index for inflation
adjustments.
b. Answers will vary with time. An example of the public law associated with a recent committee
report is
P.L. 114-113, which extends an exclusion of income to student work–service–learning programs.
c. Answers will vary with time. An example of the public law associated with a recent committee
report is
P.L. 115-97, which creates a limit on the amount of interest that is deductible in a given year.
3-31. a. Answers will vary with time. An example of a recent House committee report is H. Rep. 114-
542 (to accompany H.R. 3209), P.L. 114-184, Recovering Missing Children Act, which
reports on P.L. 114-184.

Edition Page 1-51
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