Fundamental and current tax law

The structure of the federal income tax: filing statuses, tax brackets and marginal versus effective rates, the standard deduction, phase-outs, the alternative minimum tax, and the current-year figures CFP Board provides in the exam's tax tables. Items apply the law in force for the testing window.

Internal Revenue CodeCFP Board provided tax tables

Practice question for this objective

Free sampleTax Planninghard

Elena is single. She has a 120,000 dollar salary and 40,000 dollars of qualified business income from a sole proprietorship that is not a specified service trade or business, and her income is below the level at which the wage limitation begins to phase in, so her qualified business income deduction is 20 percent of qualified business income. Her adjustments to income total 8,000 dollars, and none of them is attributable to the proprietorship, so the 40,000 dollar figure above is already her qualified business income. Her itemised deductions total 12,000 dollars, and she has no capital gains. Assume the standard deduction for a single filer is 15,750 dollars. What is her taxable income?

A136,250 dollars, using the standard deduction and no qualified business income deduction at all
B132,000 dollars, using the itemised deductions and a qualified business income deduction of 8,000 dollars
C105,850 dollars, using the standard deduction and a qualified business income deduction of 30,400 dollars
D128,250 dollars, using the standard deduction and a qualified business income deduction of 8,000 dollars Correct

Taxable income is adjusted gross income less the greater of the standard or itemised deductions, then less the qualified business income deduction. Work the formula in order. Gross income is 120,000 plus 40,000, so 160,000 dollars. Subtracting the 8,000 dollars of adjustments gives adjusted gross income of 152,000 dollars. The taxpayer takes the greater of the 15,750 dollar standard deduction and the 12,000 dollars of itemised deductions, so 15,750 dollars, leaving 136,250 dollars. The qualified business income deduction is 20 percent of the 40,000 dollars of qualified business income, that is 8,000 dollars, and since it cannot exceed 20 percent of taxable income before the deduction, which is 27,250 dollars here, the full 8,000 dollars is allowed. Taxable income is 136,250 less 8,000, so 128,250 dollars. The qualified business income deduction is available whether or not the taxpayer itemises, which is why it sits after the standard deduction in the sequence.

Why A is wrong: This stops at the correct subtotal but omits the qualified business income deduction, which is a separate subtraction taken after the standard or itemised deduction and is not part of itemising.

Why B is wrong: This subtracts the 12,000 dollars of itemised deductions when the taxpayer is entitled to the greater of the standard or itemised amount, and 15,750 dollars is greater, so the standard deduction should have been used.

Why C is wrong: This computes the qualified business income deduction as 20 percent of adjusted gross income rather than 20 percent of the 40,000 dollars of qualified business income, inflating the deduction by 22,400 dollars.

Why D is correct: Gross income of 160,000 dollars less 8,000 dollars of adjustments gives adjusted gross income of 152,000 dollars, less the larger standard deduction of 15,750 dollars gives 136,250 dollars, less the 8,000 dollar qualified business income deduction gives 128,250 dollars.

See more CFP practice questions, answers explained.

Exam traps in Tax Planning

Answers that look right on this material and are not. Each one is a distractor from a different question in the CFP bank for this domain.

Zero dollars, because her ordinary income keeps her inside the zero percent capital gain band
Why it is wrong: This is tempting because her ordinary taxable income of 40,000 dollars does sit below the 48,350 dollar breakpoint, but the gain is stacked on top of that ordinary income, so only the slice of gain that still fits under the breakpoint escapes tax.
2,200 dollars, because the deduction comes off at the rate of the bracket below hers
Why it is wrong: This assumes the deducted income is drawn from the bracket beneath her own, but a deduction strips income from the top of the stack downward, and 10,000 dollars removed while she remains inside the 24 percent band never reaches the 22 percent rate.
1,700 dollars, being 85 percent of the 2,000 dollars by which her provisional income exceeds 34,000 dollars.
Why it is wrong: This computes the upper tier correctly and then stops. The second limb of the test adds the lesser of 4,500 dollars or half the benefits on top of that 85 percent figure.

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