The regulation (REG) test covers three broad areas of the CPA exam. This test covers the professional responsibilities and ethics required of a CPA, as well as business law topics and taxation. Without question, the hardest part of the REG CPA Exam is taxation- particularly for the CPA candidate who does not work in the tax area as an intern or as an employee. Use these tips to succeed on the tax section of the REG test.
Types of income
Different types of items are taxed using different tax rates. When most people think of “tax”, they’re focusing on personal income tax- but there are other types of income and assets that are taxed. When a person inherits assets, for example, they may be subject to a gift tax. A deceased person’s estate may be taxed if the dollar amount of the estate is above a certain level. So, your first step to understand taxation is to be clear about the type of item that is being taxed.
Visualizing form 1040
While several areas of tax are covered on the REG test, many of the questions cover individual income tax. Now, the tax section requires you to memorize lots of dollar amounts like the standard deduction and the amount of a personal exemption allowed on a tax return. All of these numbers will not stick in your mind, unless you have an outline or document to organize all of the information.
I think that the way to pull all of these seemingly random facts together is to print out the form 1040 and use it as a study guide. As you dive into those facts and figures, think about where that information is used on the individual tax return. Personal exemptions, for example, are listed at the top of page 1 of form 1040 and the standard deduction is posted toward the top of page 2.
Each time you study a fact or answer a question about individual taxation, consider where that information is listed on the tax form. For example, all of the income detail is posted to page 1 of the 1040 form- you can use that knowledge to visualize how a question about income affects the overall return. Confused about the difference between the standard deduction and an itemized deduction? Check out the top of page 2. By the time you take the exam, you’ll have the general outline of a form 1040 committed to memory- it made a huge difference for me.
Increasing number of phase-outs
The biggest change in individual taxation over the past 15 to 20 years that is many more deductions are now capped, or eliminated for high-income taxpayers. This situation essentially creates a tax increase, because deductions are phased out over time.
A great example is the home mortgage interest deduction. Several years ago, a wealthy couple I know took out a very large mortgage on a new home- in part because they thought that the interest was fully deductible. Their mortgage interest was not fully deductible, given their high level of income. Keep in mind that many deductions are phased out as income increases- this is a common mistake in a tax calculation.
Follow these steps to prepare for the taxation portion of the REG test- you can enter the test with confidence.