Accounting and tax question in Real Estate

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Principles of Real Estate Accounting and Taxation

Fall 2020 – Exam #1

1. A C corporation can be taxed as a partnership if elected under the check the box rules.

True    False

2. A company owes its employees $5,000 for the year ended December 31. It will pay employees on January 6 for the previous two weeks' salaries. The year-end adjusting on entry on December 31 will include a debit to Salaries Expense and a credit to Cash. 

True    False

3. Accumulated depreciation is shown on the balance sheet as a subtraction from the cost of its related asset. 

True    False

4. Assets that cost $400,000 and had accumulated depreciation of $80,000 is sold at a gain of $50,000. This implies that $450,000 cash was received from the sale. 

True    False

5. The cash method of accounting recognizes income when received or constructively received. 

True    False

6. A company paid $9,000 for a six-month insurance policy. The policy coverage began on February 1. On February 28, $150 of insurance expense must be recorded. 

True    False

7. Failure to record an accrued liability will understate the liability and understate the expense. 

True    False

8. Increases in liability accounts are recorded as debits. 

True False

9. Depreciation expense is deducted in arriving at GAAP net income and funds from operations (“FFO”), but it is not deducted in arriving at net operating income.

True False

10. A corporation which would otherwise qualify as a REIT is owned (and will be owned during the last half of the year) by eight (8) unrelated individuals (each of whom own 5% of the company) and three (3) unrelated individuals (each of whom own 20% of the company). The company can elect to be a REIT without violating the requirement to not be closely held rule.

True    False

11. A company's balance sheet shows: cash $301,000, accounts receivable of $25,000, capitalized loan fees of $15,000 (with no accumulated amortization), land of $100,000, building of $650,000, accumulated depreciation-building of $40,000, and accrued expenses of $32,000. What is the amount of owner's equity?

_______________________

12. At the beginning of December of the current year, Roger Wilco Builders' ledger reflected accounts payable with a credit balance of $134,000. During December, the company paid $114,800. to creditors and was billed an additional amount of $14,800. At the end of December, the balance in the accounts payable account should be: 

_______________________

13. A company reported the following: Owner’s equity was $325,000 as of the balance sheet date on December 31, 2019. The following information includes all of the information recorded for the year ended December 31, 2020:

Rental income	$334,000
Prepaid rent	$123,000
Deferred revenue	$20,000
Property operating expenses	$423,000
Notes payable	$1,200,000

What is the total equity of the company at December 31, 2020?

___________________

14. The total amount of depreciation recorded against an asset or group of assets during the entire time the asset or assets have been owned: 

A. Is referred to as depreciation expense. B. Is referred to as accumulated depreciation. C. Is shown on the income statement of the final period. D. Is only recorded when the asset is disposed of. E. Is referred to as an accrued asset.

15. If the liabilities of a business increased $25,000 during a period of time and the owner's equity in the business decreased $400,000 during the same period, the assets of the business must have:

A) Decreased $375,000.

B) Decreased $425,000.

C) Increased $425,000.

D) Increased $375,000.

E) None of the above.

16. FastForward had beginning equity of $7,000, net loss of $21,000, withdrawals of $20,000 and investments by owners of $16,000. Its ending equity should be:

_____________________________

17. If a parcel of land is assessed for tax purposes at $215,000, is offered for sale at $225,000, was originally purchased for $45,000, is recognized by its purchasers as easily being worth $240,000, and is sold for $414,000. At the time of the sale, assume that the seller owed $80,000 to TrustOne Bank on the land. Immediately after the sale, the seller paid off the loan to TrustOne Bank. What is the effect of the sale of the land and the payoff of the loan on the accounting equation? 

Assets (circle) increases OR decreases by ____________

Liabilities (circle) increases OR decreases by ______________

Owner's equity (circle) increases OR decreases by ______________

18. Inge Industries received $3,000 from a customer in advance for services not yet rendered. Inge’s general journal entry to record this transaction will be: 

Debit _______________

Credit _______________

19. On May 1, 2020, a three-year insurance policy was purchased for $36,000 with coverage to begin immediately. What is the amount of insurance expense that would appear on the company's income statement for the year ended December 31, 2020?

________________________

20. A company purchased a property (land and building) at a cost of $2,500,000 on July 1, 2019. The building is estimated to have a useful life of 25 years. Land was included in the purchase for $1,500,000. The company uses the straight-line method of depreciation. How much depreciation expense will be recorded for the building for the year ended December 31, 2019?

________________________

21. Use the following information to calculate how much cash was received during the year for rents:  

Rental income (accrual method)	$12,323,000
Prepaid rent (liability account), January 1	621,400
Prepaid rent (liability account), December 31	350,400

A. $11,701,600. B. $12,673,400. C. $12,323,000. D. $12,594,000. E. $12,052,000.

F. None of the above

22. Which of the following statements is incorrect? 

A. The normal balance of land is a debit. B. The normal balance of loans payable is a credit. C. The normal balance of revenues is a credit. D. The normal balance of an expense account is a debit. E. The normal balance of the owner's capital account is a debit.

23. If the assets of a business decreased $229,000 during a period of time and its liabilities increased $671,000 during the same period, equity in the business must have:

(Circle one) increased or decreased by $ _________________

24. James, LLC sold an office building (assume no land) for $15,000,000. The building was purchased in 1991 for a cost of $12,000,000 and James LLC deducted $5,000,000 depreciation (cumulatively) through date of sale. James’s gain is:

 

___________________________________

25. List the four names of the statements included in the financial statements: 

1) ___________________________________

2) ___________________________________

3) ___________________________________

4) ___________________________________

26. PPW Co. leased a portion of its store to another company for eight months beginning on October 1, 2017, at a monthly rate of $2,000. The tenant paid $16,000 cash on October 1, which PPW Co. recorded as unearned revenue. The journal entry made by PPW Co. at year- end on December 31, 2017 would include:

A) A debit to Rent Earned for $24,000.

B) A credit to Unearned Rent for $6,000.

C) A debit to Cash for $6,000.

D) A credit to Rent Earned for $24,000.

E) A debit to Unearned Rent for $2,000.

F) None of the above.

27. A company purchased a property (land, building and land improvements) at a cost of $26,500,000 on July 1, 2018. The building and the building improvements both have are estimated to have a useful life of 25 years. Land, which was included in the total purchase price, was assigned a cost of $5,000,000. The company uses the straight-line method of depreciation. How much depreciation expense will be recorded for the building for the year ended December 31, 2018?

A) $662,500.

B) $1,060,000.

C) $430,000.

D) $860,000.

E) None of the above.

28. If the assets of a business increased $1,229,000 during a period of time and its liabilities decreased by $607,000 during the same period, equity in the business must have:

(circle) increased OR decreased by _________________________

29. On September 30, the Cash account of Value Company had a normal balance of $5,000. During September, the account was debited for a total of $12,200 and credited for a total of $11,500. What was the balance in the Cash account at the beginning of September? 

A. A $0 balance. B. A $4,300 debit balance. C. A $4,300 credit balance. D. A $5,700 debit balance. E. A $5,700 credit balance.

30. Financial statements are typically prepared in the following order: 

A. Balance sheet, statement of owner's equity, income statement. B. Statement of owner's equity, balance sheet, income statement. C. Income statement, balance sheet, statement of owner's equity. D. Income statement, statement of owner's equity, balance sheet. E. Balance sheet, income statement, statement of owner's equity.

31. For each of the following accounts, indicate whether a debit or a credit would increase the account balance (answer debit or credit)

Repairs expenses _____________

Cash ______________

Owners Withdraws ______________

Notes Payable ______________

Accounts receivable ________________

Owners Contributions ______________

Building (at cost) _______________

Accumulated depreciation ________________

Accrued salaries _______________

Rental income ______________

Utilities expenses _____________

Deferred revenue ___________________

32. The following is from a December 31 balance sheet for Tome Homebuilders. Compute the capital account balance:

Accounts receivable	$24,000
Accounts payable	41,000
Building	134,000
Accumulated depreciation	55,000
Deferred revenue	21,000
Notes payable	258,000
Inventory	11,000
R. Perkins, Capital	______
Land	31,000

33. Texark Inc., a calendar year taxpayer, reported $210,300 net income before tax on its financial statements prepared in accordance with GAAP. The tax records reveal the following information. Depreciation expense per books (included as a deduction in arriving at GAAP net income) was $213,700, but tax depreciation is $122,000.

Texark received a $100,000 of next year’s rent in advance. For tax the amount should be included in income in the year received. Compute Texark's taxable income. 

34. Robert Haddon contributed $70,000 in cash and land worth $130,000 to open a new business, RH Consulting. Which of the following general journal entries will RH Consulting make to record this transaction?

A.  Debit Assets $200,000; credit Haddon, Capital, $200,000. B.  Debit Cash and Land, $200,000; credit Haddon, Capital, $200,000. C.  Debit Cash $70,000; debit Land $130,000; credit Haddon, Capital, $200,000. D.  Debit Haddon, Capital, $200,000; credit Cash $70,000, credit Land, $130,000. E.  Debit Haddon, Capital, $200,000; credit Assets, $200,000.

35. In which of the following situations would the trial balance not balance? 

A. A $1,000 collection of an account receivable was erroneously posted as a debit to Accounts Receivable and a credit to Cash. B. The purchase of office supplies on account for $3,250 was erroneously recorded in the journal as $2,350 debit to Office Supplies and credit to Accounts Payable. C. A $50 cash receipt for the performance of a service was not recorded at all. D. The purchase of office equipment for $1,200 was posted as a debit to Office Supplies and a credit to Cash for $1,200. E. The cash payment of a $750 account payable was posted as a debit to Accounts Payable and a debit to Cash for $750.

36. Hal Smith opened Smith’s Repairs on March 1 of the current year. During March, the following transactions occurred and were recorded in the company's books: 1. Smith invested $10,000 cash in the business. 2. The company paid $5,200 for salaries for the month. 3. The company paid $1,600 cash to rent office space for the month. 4. Smith withdrew $5,000 for his personal use from the company. 5. The company received $19,000 cash for repair services provided during March. 6. The company provided $12,000 of services to customers on account. 7. The company paid cash of $500 for monthly utilities. 8. The company received $3,100 cash in advance of providing repair services to a customer.

Based on this information, net income for March would be:  

A.  $11,700. B.  $13,400 C.  $23,700 D.  $26,800 E.  None of the above.

37. Chili Owners opened a real estate leasing business on January 1, 2018 of the current year. During the year, the following transactions occurred and were recorded in the company's books:

1. Chili Willy, owner, invested $325,000 cash to start the business Chili Owners. 2. Chili Owners bought a commercial building for $575,000 on March 1, 2018. The property was comprised of building of $450,000 and land of $125,000. The building is depreciable over a 30 year life for GAAP. 3. The company received $42,000 in rent which represented payment under the lease on the property. The payment was for the rental period from January 1 – December 31, 2018. 5. The company paid $2,200 for a maintenance contract under which services were rendered during the year. 6. The company received $7,000 of rent which represented payment under the lease on the property. The payment was for the rental period from January 1 – January 31, 2019. 7. The company paid cash of $3,500 for utilities for 2018 bills. 8. The company paid 2018 property taxes in the amount of $11,000 on July 1, 2018 and the company also paid for 2019 property taxes in the amount of $3,500 on December 15, 2018.

9. The company paid interest expense of $4,000 on its outstanding debt during 2018. Accrued, unpaid interest through the end of the year, December 31, 2018, was an additional $500. 10. Chili Willy withdrew $15,000 for its personal use from the company.

Based on the information above, GAAP net income as computed using the accrual method of accounting, should be:

_____________________ 

Based on the information above, net operating income (NOI) for GAAP as computed under the accrual method of accounting should be:

_____________________ 

Based on the information above, net income as computed under the cash method of accounting (i.e. not under

GAAP) should be:

_____________________ 

38. A REIT has 500 shares of stock outstanding and is owned by 500 separate US taxable individuals. It has the following items of taxable income for the year ended December 31, 2020. The REIT makes declares a distribution of $400,000 for each share of REIT stock outstanding in 2020 (so the total to its 50 shareholders was $20,000,000). Assume all of shareholders are US taxable individuals in the highest tax bracket and they proportionally own the REIT shares:

Rents from real property: $10,000,000

Depreciation expense: ( 1,000,000)

Property expenses: ( 4,000,000)

Capital gain on the sale of real estate: 3,000,000

Interest income: 300,000

Total taxable income/earnings and profits: $ 8,300,000

a) Calculate the aggregate taxes due on the $20,000,000, assuming that each of the 50 shareholders has a tax basis of $1,000,000 in their REIT shares (a total of $50,000,000). Show each category of income from the REIT to the shareholders.

b) Calculate the aggregate taxes due on the $20,000,000, assuming that each of the 50 shareholders has a tax basis of $400,000 in their REIT shares (a total of $10,000,000). Show each category of income from the REIT to the shareholders.

39. Assume that you purchased a commercial office building on January 1, 2019. The rent collected from the single tenant in year 1 was $330,000. The terms of the lease require $30,000/month. The first-year expenses to operate the property were as follows:

Cleaning and maintenance 12,000

Insurance 11,000

Legal and other professional fees 7,500

Repairs 10,000

Property Taxes 70,500

Utilities 18,000

Management Fees 35,000

Other Expenses 23,000

The property was purchased for $3,500,000. You will borrow 70% of the acquisition cost of the property. The loan terms will be interest only, with a 4.5% annually-compounding, single payment interest rate.

To compute depreciation on the property, you will allocate 80% of the purchase price to building and 20% to land. The building will have a depreciable life of 30 years and will be straight-line depreciation (even depreciation over the 30-year period). Assume no closing costs on the acquisition, no organizational costs, no state taxes and no loan fees.

Questions:

39a) Compute the net operating income for 2019 using the data above.

39b) Determine financial income (GAAP) using the depreciation methods and the accrual method for rental income recognition using the data above.

39c) Determine taxable income for 2019 using the data above.

39d) Assuming a single individual directly owns the property, determine the tax that will be required from the net rental income.

39e) Assuming a single individual owns the property through a corporation, determine the tax that will be required (including both the corporate tax and the tax on dividends).

40. Use the trial balance of a rental real estate company copied below – determine the: (1) Net Income, (2) NOI, and (3) FFO as three separate numbers.

40a) Again using the trial balance of the rental real estate company separately attached - assume the net income = taxable income, and calculate the US federal taxes using the following facts:

a. A US individual owns the business directly and is subject to the highest tax rate and (3) the interest income earned is unrelated to the business (e.g. it does not get a passthrough deduction).

b. A US individual owns the business through a US C corporation. The taxable income will be double taxed because cash distributions out of the business for the year are greater than the earnings and profits of the business.

Trial Balance
Retail LLC
Account	Description	Debit		Credit
1010-000	CASH IN BANK	157,358.50
1012-000	PRIMARY CASH ACCOUNT	8,208.02
1029-000	OTHER RESERVES/ESCROWS	49,299.78
1105-000	A/R - OTHER	140,794.92
1110-000	RENTAL INCOME RECEIVABLE	249,046.99
1170-000	INTERCOMPANY RECEIVABLE	1,217,273.64
1405-000	LAND	5,379,727.00
1406-000	UNIMPROVED LAND	7,515,474.00
1500-000	BUILDING COSTS	10,276,612.00
1520-000	TENANT IMPROVEMENTS	926,857.00
1530-000	FURNITURE & EQUIPMENT	139,237.00
1570-002	SOFT COSTS-LEGAL	9,100.25
1570-006	SOFT COST-COMMISSIONS	36,614.75
1591-000	BUILDING – ACCUM DEPREC			2,280,649.76
1630-000	PREPAID CAP LOAN COSTS	65,635.00
1690-000	ACCUM AMORT-PPD LOAN COST			26,254.02
1810-000	PREPAIDS	5,468.74
1812-000	INSURANCE-PPD	4,994.66
2020-000	ACCOUNTS PAYABLE ACCRUAL			22,421.67
2050-001	RETAIL SECURITY DEPOSITS			85,152.85
2060-000	RENT RECVD IN ADVANCE			53,336.76
2200-000	MORTGAGES PAYABLE			15,760,000.00
2225-000	PAYMENTS-PERM 1ST			646,237.42
3100-000	DISTRIBUTIONS	3,137,794.90
3300-000	PARTNER'S CAPITAL			7,852,091.91
3920-000	INCOME/LOSS-CURRENT YEAR			1,862,299.75
4110-000	TENANT RENTS			2,150,656.19
4130-000	PERCENTAGE RENTS			10,086.07
4220-000	PROP TAX RECOVERIES			219,348.96
4225-000	PRIOR YR. PROP TAX RECOV	6,259.10
4230-000	INSURANCE RECOVERIES			10,777.92
4235-000	PRIOR YR. INSUR. RECOV.	1,172.23
4240-000	CAM REVENUE CHARGES			164,511.09
4245-000	PRIOR YR. CAM ADJUSTMENT	13,117.48
4250-000	UTILITIES RECOVERIES			27,609.17
4253-000	GAIN ON SALE OF LAND			19,516.98
4900-000	OTHER REVENUES			26.28
5110-000	ELECTRIC	14,324.39
5130-000	WATER AND SEWER	0.00
Account 5135-000	WATER IRRIGATION	Debit 2,166.00		Credit
5136-000	STORM WATER	14,808.46
5495-000	REIMB-HVAC			538.00
5500-000	REPAIRS AND MAINTENANCE	22,481.19
5510-000	ROOF REPAIRS	397.59
5525-000	ELECTRICAL SUPPLIES	4,175.45
5530-000	PLUMBING REPAIRS	5,509.94
5570-000	FIRE AND SAFETY	6,983.30
5580-000	PAINTING	4,850.00
5590-000	REPAIR AND MAINT-OTHER	835.00
5620-000	PEST CONTROL	723.00
5640-000	CONTRACT SERV-LANDSCAPE	37,777.85
5670-000	SNOW REMOVAL	1,902.50
5680-000	SIGNAGE	889.28
5710-000	CONTRACT SERV - SECURITY	19,595.00
5830-000	ONSITE WAGES & BENEFITS	31,212.00
5900-000	PROPERTY TAXES	215,205.65
6010-000	PROPERTY INSURANCE	5,387.92
6090-000	INSURANCE-OTHER	7,037.49
6300-000	PARKING EXPENSE	15,996.00
7113-000	WATER & SEWER- N/R	40,881.98
7114-000	WASTE REMOVAL-N/R	1,443.00
7140-000	BLDG REPAIRS & MAINT-N/R	28,095.51
7210-000	ACCOUNTING FEES	4,240.46
7270-000	PROFESSIONAL FEES-OTHER	1,120.73
7280-000	MARKETING & ADVERTISING	7,184.04
7410-000	OWNERSHIP EXPENSE	27,115.20
7425-000	MANAGEMENT FEE N/R	66,028.42
7426-000	BANK FEES - N/R	680.20
8300-000	INTEREST EXPENSE	691,291.13
8400-000	DEPRECIATION & AMORT.	571,130.16
	Total:	31,191,514.80		31,191,514.80