Question 1

In Year 1, a taxpayer itemized deductions and deducted $5,000 of state income taxes. The total itemized deductions exceeded the standard deduction by $200. In Year 2, the taxpayer received a $500 refund of the Year 1 state income taxes. How much of the refund is taxable in Year 2?

Accepted Answer

Tax Benefit Rule: A refund is taxable only to the extent the prior deduction actually reduced tax liability. If itemized deductions were only $200 better than standard, the benefit was only $200.

Question 2

What mistakes do candidates make on this CPA question?

Accepted Answer

Including the entire refund as income without checking how much the deduction actually benefited the taxpayer.

In Year 1, a taxpayer itemized deductions and deducted $5,000 of state income taxes. The total itemized deductions exceeded the standard deduction by $200. In Year 2, the taxpayer received a $500 refund of the Year 1 state income taxes. How much of the refund is taxable in Year 2?

How to approach this question

Full Answer

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