c


Ê
˜ Æ
Ê
Ê
All information is available on the situation tab. The candidate should split the screen to view the
situation tab and the form at the same time.

˜ FÊ

Ê
Jox 2 should be checked. The Rileys were married at the end of the tax year and would qualify as
married filing joint. This would be the tax status to minimize total taxes.

˜ Ex 
Ê
9n determining the number of exemptions to claim, each filing individual, Trevor and Jordan, is
entitled to his/her personal exemption.

9n determining how many dependency exemptions the Rileys are allowed, the "CARES" or
"SUPORT" tests must be met.

Sydney and Kristi were fully supported by their parents, had no gross income (although an
exception exists for children under age 19), did not file a joint return with another taxpayer, are
U.S. citizens, and are relatives of the taxpayers. 9n addition, they resided with the taxpayers for
the entire year and are "qualified" children.

Linda, Trevor's mother, was fully supported by Trevor and had no additional income. Linda did not
file a joint tax return, is a U.S. citizen, and is a qualifying relative. The dependent is not required to
live with the taxpayer for the entire year if she is a qualifying relative.

Joxes 6a and 6b should be checked, and the number Ơ2ơ should be entered in the related box.

Line item 6c should have three (3) names:

Sydney Riley Daughter
Kristi Turner Daughter
Linda Riley Mother

The number of children as dependents is Ơ2ơ and should be entered in the related box.

The number of other dependents is Ơ1ơ and should be entered in the related box.

Total is 5 exemptions.

˜ ÆÊÊ ÊÊ
Trevor's wages $85,000
Jordan's wages $60,000
Value of employer-provided
group term life insurance
in excess of $50,000 $2,000
$147,000

˜ ÆÊ Ê x
Ê

ÊÊ
˜ ÆÊ
Ê x-x 
Ê

Ê Ê
The $8,500 in municipal bond interest is tax-exempt, but must be reported on the form (line 8b).

˜ ÆÊÊ ÊÊ
The child support of $12,600 is non-taxable and non-reportable.

˜ ÆÊÊ 
Ê Ê Ê!Ê !Ê
The Riley's stock transactions in 20X4 are as follows:

Ê Ê"#Ê 

Ê $ Ê Æ!Ê
Juster Co. $15,000 $35,000 ($20,000)
Copper 9nc. 8,000 4,000 4,000
Net gain (loss) ($16,000)

The Rileys have a net $16,000 capital loss (ignore long-term and short-term effects) in 20X4. They
have no capital loss carry-over from 20X3; therefore, they will use $3,000 of the $16,000 net loss
as an offset to other taxable income in 20X4 and carry forward a $13,000 net capital loss to 20X5
to be considered with future capital transactions.

˜ ÆÊÊ%
Ê% ÊE

ÊÊ
All rental real estate activities are reported net on page 1 of the form 1040. Schedule E is used to
report all gross amounts and related expenses.

The net rental activity is calculated as follows:

9ncome:
Rental income $20,000

Deductible expenses:
Jank mortgage interest $12,000
Real estate taxes 3,600
9nsurance 1,700
MACRS depreciation 4,200
$21,500

Net rental loss ($1,500)

Ê
The $2,000 security deposit is required to be returned and would not be considered prepaid rent;
therefore, it would not be included as income.

Rental activities are considered passive activities. Losses resulting from passive activities are
disallowed unless an exception applies. The ƠMom and Pop Exceptionơ allows taxpayers to deduct
up to $25,000 of net passive losses attributable to rental real estate if the individuals are actively
participating. However, this $25,000 loss is reduced by 50% of the excess of the taxpayer's
adjusted gross income (AG9) over $100,000, phasing out completely at $150,000 of AG9. The AG9
of the Riley family is $162,000, so no loss is allowed in 20X4.
 ˜ ÆÊ&Ê'
(Ê# Ê")Ê *Ê + *ÊÊ
~ All prizes and awards are taxable to the recipient at the fair market value. The prize received
for a week's stay in Hawaii is taxable and is reported at the $3,000 fair market value.

~ The gift of an acre of land received by Jordan is non-taxable (a gift). Upon later sale, the
Rileys may recognize gain or loss under the rules related to the sale of gifted property.

˜ ÆÊ&&Ê
Ê# Ê,&Ê
This box will calculate automatically based on the values entered on the Form 1040. The correct
amount of total income is $162,000.
Ê


Ê
-Ê FÊ x
Ê
The fair market value (FMV) of all property received as wages is fully taxable as compensation for
services.

&-Ê " 
 Ê x
Ê
Up to $5,250 may be excluded from gross income for payments made by an employer on behalf of
an employee for an employee's educational expenses. Therefore, $5,250 of the $8,000
reimbursement is non-taxable and $2,750 is taxable.

-Ê .- x
Ê

9nterest received on state and local bonds/obligations is tax exempt.

-Ê FÊ x
Ê

9nterest paid by a federal or state government for late payment of a tax refund is taxable.

-Ê " 
 Ê x
Ê
Jenefits received from a traditional non-deductible 9RA are partially taxable. The principal, which
was not deductible when contributed, is non-taxable. The accumulated earnings on the principal
are taxable when withdrawn.

,-Ê .- x
Ê

Gross income does not include property received as a gift or as an inheritance; however, any
income received from such property is taxable.

-Ê " 
 Ê x
Ê
Scholarships for a degree-seeking student are excludible from income only up to amounts actually
spent on tuition, fees, books, and supplies. Amounts used to pay for other items (such as room
and board) or retained by the recipient would be taxable. Therefore, $12,000 ($10,000 + $2,000)
would be non-taxable in this case and $3,000 (expended for room and board) would be taxable.

-Ê .- x
Ê

 Exclude from gross income compensation (payment) received under a workers' compensation act
for personal injury or sickness.

Ñ-Ê " 
 Ê x
Ê
The sale of the taxpayer's personal residence is subject to an exclusion from gross income for gain.
For qualified single individuals, the exclusion from gain is $250,000. 9n this case, the realized gain
is $300,000. $250,000 is exempt from tax, and $50,000 would be taxable as a capital gain.

c

   * Ê
To: Mr. & Mrs. Trevor Riley
Subject: 9mplications of the Sale in 20X5 of the Gift of Land

The tax treatment of a subsequent sale of the land is dependent upon the selling price. The general
rule is that the property retains the rollover cost basis of the donor when in the hands of the recipient
($60,000 in this case). The gain or loss would be calculated as the sales price (proceeds) less the
rollover cost basis.

An exception to the general rule exists when the fair market value of the property at the date of gift is
lower than the rollover cost basis (as exists in this case, $50,000 FMV < $60,000 rollover basis). 9n this
instance, the gain or loss on the sale depends upon the ultimate sale price. 9f a subsequent sale occurs
at a price greater than the donor's rollover cost basis, the gain is calculated as the difference between
the sales price and the donor's cost basis ("gain basis"). 9f the sales price is less than the fair market
value, the loss is calculated as the difference between the fair market value at the date of gift (Ơloss
basisơ) and the sales price. 9f the sales price is less than the rollover cost basis but greater than the
fair marker value at the date of gift, there is no gain or loss recognized (Ơin the middleơ).

9f you have any additional questions, please do not hesitate to contact me.

c


 *# Ê *Ê/
ÊExÊÊ Ê
Uualified medical expenses include the health insurance premiums ($1,000) and the cost in excess of
the increase in the value of residence for installation of the stairlift ($450).
Line 1: $1,450
Note: The life insurance premiums are not qualified expenses. Also, the threshold amount of 7.5%
of AG9 is calculated (AG9 is given on the form). Only amounts in excess of the 7.5% threshold are
deductible; thus, the Line 4 answer is zero. The threshold is calculated as 7.5% x 56,397 = 4,230.
Ê Line 4: $0Ê

 xÊ0Ê" *ÊÊ Ê
State and local income taxes (check box on income taxes)* Line 5: $1,100
Joth estimated payments made and state taxes withheld are deductible.
 Real estate taxes Line 6: $2,000
Real estate taxes paid on a principal residence are deductible.
Line 7: $0
Line 8: $0
Line 9: $3,100
* Note: Taxpayers may now elect to deduct the greater of sales tax and state or local income taxes.



Ê0Ê" *ÊÊ Ê
Home mortgage interest on up to $1,000,000 acquisition indebtedness is deductible.
Line 10: $5,000

$
Ê
Ê( 
ÊÊ
Cash gifts to qualified organizations like the American Red Cross are deductible up to 50% of AG9.
Ê Line 15: $500Ê

1
ÊExÊ *Ê 
Ê'
(Ê # Ê/*#
ÊÊ
Miscellaneous itemized deductions are deductible only to the extent that they exceed 2% of AG9, and
in this case they do not.
Union dues Line 20: $100
Unreimbursed employee business expenses are deductible subject to 2% AG9 threshold.
Tax preparation fees Line 21: $250
Tax preparation fees are deductible subject to 2% AG9 threshold.
Line 25 is calculated as 2% x 56,397 (AG9 is given on the form) = 1,128. Line 25: $1,128
Ê Line 26: $0

'
(Ê # Ê/*#
Ê
ÊGambling lossesÊ Line 27: $100Ê
Gambling losses are deductible up to gambling winnings and are not subject to the 2% AG9
threshold. The Jelchers had gambling winnings of $250; thus, the $100 of gambling losses is
deductible.


Ê
 )*Ê/*#
ÊÊ Line 28: $8,700Ê

-Ê .
(Ê Ê *2

ÊÊ Ê**#
Ê
Premiums on a life insurance policy are not deductible (because the income (benefit) is
nontaxable).

&-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
 State income taxes deemed paid as estimated payments during the taxable year or withheld are
deductible as itemized deductions.

-Ê .
(Ê Ê *2

ÊÊ Ê**#
Ê
The loss on the sale of a personal auto is not deductible.

-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
Health premiums paid by an employee are deductible as part of qualified medical expenses to the
extent total expenses exceed 7.5% of AG9 and provided they are not paid out of a pre-tax plan
through payroll reductions. Self-employed individuals are allowed an adjustment for health
insurance premiums.

-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
Tax preparation fees are a miscellaneous itemized deduction subject to a 2% AG9 threshold.

,-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
Uualified charitable contributions are an itemized deduction subject to an overall 50% of AG9
threshold.

-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
Home mortgage interest on up to $1,000,000 of acquisition indebtedness is an itemized deduction.

-Ê /*#
Ê Ê$Ê
Ê 3Ê
Ê
x
Ê# Ê
Unreimbursed union dues are deductible as a miscellaneous itemized deduction subject to a 2%
AG9 floor.

Ñ-Ê .
(Ê Ê *2

ÊÊ Ê**#
Ê
Federal income taxes paid or withheld are NEVER deductible nor allowed as an adjustment.

-Ê*2

Ê
Ê 3Ê
Ê$Ê
50% of self-employment taxes are an adjustment to gross income to arrive at AG9. This represents
the employer's portion of those taxes.

-Ê*2

Ê
Ê 3Ê
Ê$Ê
Contributions to qualified (and deductible) retirement plans (Keogh, 9RA, etc.) are an adjustment,
provided the phase-outs don't apply.

&-Ê*2

Ê
Ê 3Ê
Ê$Ê
Penalties for early withdrawal of funds are an adjustment to gross income.


The basic calculation to arrive at an individual's alternative minimum taxable income (AMT9) is:

Regular taxable income

 Adjustments
+ Preferences
Alternative Minimum Taxable 9ncome

Each item is explained below. 9f it says Ơadjustmentơ or Ơpreferenceơ, then the box should be checked.

-Ê *2

Ê
The difference between the percentage of completion method and the completed contract method
of accounting for long-term contracts is an adjustment to regular taxable income to arrive at AMT9.

&-Ê *2

Ê
Personal exemptions are an adjustment to regular taxable income to arrive at AMT9.

-Ê *2

Ê
The standard deduction is not allowed under AMT rules and therefore is an adjustment to regular
taxable income to arrive at AMT9.

-Ê .
Ê Ê *2

ÊÊ#Ê
Moving expenses are an adjustment to arrive at adjusted gross income, but they are not an
adjustment or preference to arrive at AMT9.

-Ê .
Ê Ê *2

ÊÊ#Ê
Deductible contributions to 9RAs are not an adjustment or preference in calculating AMT9. These
are adjustments to gross income to arrive at AG9 under regular tax rules.

,-Ê "#Ê
Private activity bond tax-exempt interest is a preference (always an addback to regular taxable
income) in calculating AMT9.

-Ê .
Ê Ê *2

ÊÊ#Ê
Dividends received are not an adjustment or a preference in calculating AMT9. There is no
difference in the treatment of dividends received by an individual under regular and AMT tax rules.

-Ê .
Ê Ê *2

ÊÊ#Ê
Gambling losses are a miscellaneous itemized deduction not subject to the 2% AG9 threshold. Only
miscellaneous itemized deductions subject to the 2% AG9 threshold are adjustments for AMT
purposes.

Ñ-Ê *2

Ê
For AMT purposes medical expenses must exceed 10% of AG9; therefore, there is an adjustment
for AMT purposes for the amount that exceeds 7.5% but is less than 10% of AG9.

-Ê.
Ê Ê *2

ÊÊ#Ê
50% of self-employment tax paid is an adjustment to arrive at adjusted gross income, not AMT9.

-Ê.
Ê Ê *2

ÊÊ#Ê
Mortgage interest paid on debt to acquire or improve a home is not an adjustment for AMT
purposes.
 &-Ê*2

Ê
Mortgage interest paid on debt not used to buy, build, or improve a home is an adjustment to
regular taxable income to arrive at AMT9.
c

   * Ê
To: File
Subject: Acceptable Disclosure of Taxpayer 9nformation

Disclosure of taxpayer information to others is allowed in three main situations: computer processing,
peer review process and through an administrative order.
Computer processing would include the inputting of information into tax software done by someone
other than the CPA himself. Such individuals may include paraprofessionals or uncertified staff that
assist in the preparation of returns.
Peer review process is the system implemented to ensure compliance with professional standards.
During this process an independent party typically reviews the files for adherence to quality control
standards and thus, is exposed to client information.
Administrative order includes such situations where a court or other administrative body issues an order
or other formal document requiring production of client information.
During preparation of the Jelcher's 20X4 tax return, the court, an acceptable administrative body,
requested information pertaining to the Jelcher's 20X4 tax return. This request should be honored and
the information sent to the court.Ê

c
 

-Ê .
Ê Ê# 
*Ê
-ÊÊÊ
The income interest at the trust's creation is not a completed gift. A gift must be of present
interest, where the receiver has use of and access to the gift. Cobb retained the power to revoke
the income interest.

&-Ê .
Ê Ê# 
*Ê
-ÊÊÊ
The remainder interest at the trust's creation is not a completed gift. A gift must be of present
interest, where the receiver has use of and access to the gift. Cobb retained the power to revoke
the remainder interest.

-Ê $
ÊÊ Ê
Ê

-ÊÊÊ
The income interest is a gift of a future interest because the beneficiary (Kane's nephew) is 25 and
he will not receive the income distribution until he is 29. A gift must be of present interest, where
the receiver has use of and access to the gift.

-Ê $
ÊÊ
Ê

-ÊÊÊ
The cash gifts to his son during 20X4 are examples of gifts of present interest. A gift must be of
present interest, where the receiver has use of and access to the gift.

-Ê $
ÊÊ
Ê

-ÊÊÊ
 The income interest is a gift of present interest because Jane receives the income immediately and
until her 30th birthday. Jane has use of and access to the income interest.

,-Ê $
ÊÊ Ê
Ê

-ÊÊ
Jecause Yeats' brother does not receive this gift until Jane reaches age 30, the gift is one of future
interest. 9n making this gift, Yeats did not retain any power to revoke the gift.

-Ê $
ÊÊ
Ê

-ÊÊ
The cash gift to Tom's uncle during 20X4 is an example of a gift of present interest. A gift must be
of present interest, where the receiver has use of and access to the gift. Even though both signed
a timely election, the gift is greater than the $24,000 ($12,000 per spouse) annual exclusion
amount and will generate taxable gifts for Tom and Ann.

-Ê $
ÊÊ
Ê

-ÊÊÊ
The income interest is a gift of present interest because the brother receives the income
immediately and for ten years. The brother has use of and access to the income interest. Martin
did not retain the power to revoke the income interest.

Ñ-Ê .
Ê Ê# 
Ê
-ÊÊÊ
The remainder interest is not a completed gift because Martin retains the power to revoke the
remainder interest.
 

 

Ê /Ê 4 ÊÊ$
Ê  x
Ê 
Ê
2. Kevin $18,000 $6,000
3. Kelly $9,000 $0
4. Janis (direct to Maryville University) $30,000 $0
5. Robin $40,000 $28,000
6. Paul (direct to Westside Hospital) $15,000 $0
7. Karen $150,000 $138,000
8. Ray $20,000 $8,000
Ê
&-Ê 53Ê
Kevin received $18,000 in cash, and the gift qualified for the $12,000 annual exclusion. Therefore,
the taxable gift is $6,000.

-Ê 5Ê
Kelly received artwork valued at $9,000, and the gift qualified to be completely excluded from gift
tax, as the total gift was $12,000 or less. [Note that the taxable gift amount cannot go below zero
to offset gifts to others, even though Kelly did not receive the maximum annual exclusion.]

-Ê 1 Ê   3Ê63

!Ê
Direct payments to educational institutions qualify for unlimited exclusion from gift tax. There is no
taxable gift related to this transfer.

-Ê %
Ê
 Robin received stock valued at $40,000 [1,000 6 $40], and the gift qualified for the $12,000 annual
exclusion. Therefore, the taxable gift is $28,000.

,-Ê " Ê 

*Ê7
!Ê
Direct payments to medical institutions for medical care qualify for unlimited exclusion from gift
tax. There is no taxable gift related to this transfer.

-Ê 5 Ê
Karen received a house valued at $150,000, and the gift qualified for the $12,000 annual exclusion.
Therefore, the taxable gift is $138,000.

-Ê % Ê
9n order to exclude from gift tax unlimited amounts of payments for education, payments must be
made directly to the educational institution. 9n this case, payment was made to Ray (not to an
educational institution) in the amount of $20,000, so it qualified for the $12,000 annual exclusion.
Therefore, the taxable gift is $8,000.
c

   *
To: Speedo File
Subject: Treatment of Gift Tax Paid on Taxable Gifts on Estate Tax Return

Each year a taxpayer is allowed a gift tax exclusion. 9f the taxpayer gives up to that amount to an
individual, no gift tax ramifications exist and the gift is not deemed a Ơtaxable gift.ơ For 20X4 the
amount of the gift tax exclusion is $12,000. Gifts made in excess of the annual exclusion (provided
they are not otherwise excluded as unlimited direct gifts to educational institutions or medical
institutions for healthcare) are deemed Ơtaxable gifts.ơ Any gift tax paid on prior taxable gifts is
considered in the calculation of the estate tax due upon filing of the Estate Tax Return.

The gift tax and estate tax is a unified transfer tax system that employs a progressive tax rate.
Therefore, in calculating the taxable estate on Form 706, all prior taxable gifts are added to the amount
of the existing estate at death and a total amount of cumulative gift/estate tax is calculated to arrive at
a Ơtentative estate tax.ơ Then, the amount of gift taxes paid in prior years (on prior Forms 709) is
subtracted from the tentative estate tax to avoid Ơdouble taxationơ of the prior taxable gifts.

c


-Ê F Ê
There is no requirement that an option contract be limited to a maximum of 90 days. Firm offers
under UCC Sales must be limited to a maximum of 3 months, not option contracts.

&-Ê Ê
An exchange of consideration is an element of an enforceable contract. Thus, to have an
enforceable option contract there must be an exchange of consideration.

-Ê F Ê
An option contract does not require a writing and need not be signed by a merchant. Firm offers
under UCC Sales must be signed by a merchant to be enforceable.
 -Ê F Ê
As a general rule, an offeror may revoke an offer anytime before it is accepted. Option contracts
are an exception to the rule and cannot be revoked.

-Ê Ê
An option contract may be oral. An option contract is not one of the six types of contracts that
require a writing under the Statute of Frauds.

,-Ê F Ê
There is no requirement that an option contract involve the sale of goods. An option contract may
involve the sale of real estate, for example.

 

-Ê  #( 


-Ê

&-Ê F
ÊÊ Ê" 
# Ê"-Ê

-Ê 
-Ê

-Ê Ex-Ê

˜ Ex 
ÊÊ
(Ê+Ê#(#Ê

Habitability: Landlord warrants to keep residential premises up to code or reasonably

suitable for occupation by humans.

Perfect Tender: The requirement that a seller delivers to buyer conforming goods.

General Warranty: This is a type of real property deed. 9t is not a sales warranty.

c
   *
To: Vesta Electronics
Subject: Risk of Loss

Vesta Electronics would bear the risk of loss for the 18" speakers destroyed by the fire on its loading
dock. Even though Vesta identified and segregated the goods on its loading dock, the risk of loss
remained with the seller because the contract's shipping terms "F.O.J. seller's loading dock" made it a
shipment contract. Thus, risk of loss does not pass to Zap until the goods are delivered to the carrier.

The risk of loss for the 16" speakers also remained with Vesta. Even though the goods were delivered
to the common carrier, risk of loss did not pass because Vesta shipped nonconforming goods. Zap may
validly reject the 16" speakers because any buyer may reject nonconforming goods. To avoid potential
 liability, the rejection must be made within a reasonable time of receipt and must be communicated to
the seller. Zap may also validly accept some of the 18" speakers. A buyer may accept none, all, or any
commercial unit of a shipment when nonconforming goods are shipped.

To be entitled to damages, Zap must comply with the UCC by notifying Vesta of the rejection of the
goods within a reasonable time; acting in good faith with respect to the rejected goods by following
any reasonable instructions of the seller; and giving Vesta the opportunity to cure until the contract
time of performance expires.

c


-Ê F Ê
To be negotiable an instrument must be payable on demand or at a definite time. An instrument
that is payable Ơ30 days after my deathơ is neither payable on demand or at a definite time. No one
knows when the party will die.

&-Ê Ê
To be negotiable an instrument must be payable in a fixed amount of money. Money includes any
type of foreign currency, such as Japanese yen.

-Ê F Ê
To be negotiable an instrument must be payable in a fixed amount of money. 9t must be payable
in money and only money. An instrument payable in money and services is not negotiable.

-Ê F Ê
To be negotiable an instrument must be payable to the order of a specified party or be payable to
bearer. Order paper must state that it is payable to the order of an identified person. "Pay to John
Smith" is not negotiable because it is missing one of the magic words of negotiability, the word
"order".

-Ê Ê
To be negotiable, an instrument must be payable to the order of a specified party or be payable to
bearer. Pay to bearer is negotiable.

,-Ê F Ê
To be negotiable an instrument must be payable in a fixed amount of money. The amount must be
stated on the front of the instrument and must be a definite sum. $1,000 plus or minus $1 is not a
definite sum.

-Ê Ê
Whether an instrument is negotiable depends only on the front of the instrument. An endorsement
cannot destroy negotiability or create negotiability.


-Ê Ê
Perfected security interest (not a PMS9) - priority based on date of filing (July 1, after other
perfected security interests) or perfection, whichever was first.
 &-Ê ,Ê
Has rights to whatever is left.

-Ê Ê
Juyer in the ordinary course of seller's business takes free of all security interests as long as buyer
does not know that sale violates security agreement.

-Ê Ê
PMS9 creditor in inventory must give notice to prior secured creditors and must file prior to delivery
to get ahead of prior perfections, so no superpriority here. Filed May 13, after creditor 5 but before
creditor 1.

-Ê Ê
Non-PMS9 perfected security creditor. Filed May 1, before creditor 4 and so has priority over them
under first to file or perfect rule. Creditor 4 does not have superpriority because of failure to give
prior notice.

,-Ê &ÊÊ
To properly perfect PMS9 in inventory, creditor must give notice to prior secured creditors and must
file prior to delivery to get ahead of prior perfections.

-Ê 8
#  Ê/*Ê

&-Ê .
#Ê


Ê

-Ê % #Ê


Ê

-Ê % #Ê.
#Ê


Ê

-Ê 9  Ê *Ê Ê/*Ê

,-Ê # Ê  

Ê/*Ê

   * Ê
To: Ray
Subject: Real or Personal Defense regarding the note

Generally, a holder in due course of a negotiable instrument takes the instrument free of personal
defenses and subject only to real defenses. The note here is negotiable per the facts given. Peter also
appears to be a holder in due course. A holder in due course is a person who takes a negotiable
instrument for value, in good faith, and without notice of any defenses to the instrument. Peter gave
value (the wheels) without notice of any defenses to the instrument, and nothing in the facts indicates
that he lacked good faith. Nevertheless, you do not have to pay him because you have a defense that
is valid against a holder in due course.
 Your defense to Tim's action is the real defense Fraud in the Execution. 9n regard to commercial
paper, Fraud in the Execution occurs when the party signing did not know the instrument or document
they were signing or executing was commercial paper and instead honestly believed they were signing
something else. 9n your case, you believed you were signing a form paper to be used by your state
board for purposes of comparing signatures for the CPA exam. You did not know the document was to
become a promissory note and did not freely create and give Tim a promissory note. Therefore, you
will not be liable for the $1,000 promissory note Tim negotiated wrongfully to Peter. Peter will not
prevail in a suit against you and must seek damages from Tim.

c


-Ê Ê
Secured creditors are paid first, then priority claims are paid. Administrative costs, including the
bankruptcy attorney's fees, have a second priority. Since there are no secured creditors,
adminstrative costs total $14,000, $32,000 is available for distribution, and there are no first
priority claims (for alimony or support), all $32,000 is available and the attorney will be paid in full.

&-Ê Ê
Wage claims have a fourth priority up to $10,950 for wages earned within 180 days before the
bankruptcy petition is filed. Claims for unpaid employee benefits occuring during that same period
are fifth priority claims for up to whatever remains of the $10,950 after paying wage claims.
$17,000 is available to pay Lisa's wage and benefit claims ($32,000 - $14,000 administrative
expenses - $1,000 involuntary case gap claims). Thus, Lisa will receive the full $5,000 she is
claiming.

-Ê Ê
9nvoluntary case gap creditor claims have a third priority. After paying adminstrative expenses
($14,000), $18,000 remains to pay third party claims. Thus, Skin Juff, 9nc. will receive the full
$1,000 it claims.

-Ê Ê
Taxes generally have an eight priority. After paying higher priority claims, $12,000 remains to pay
the taxes. Thus, the state will be paid its full $1,000 tax claim.

-Ê Ê
$32,000 minus administrative costs minus claims by Skin Juff, 9nc. minus employee benefits minus
taxes = $11,000.



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Face Value of policy divided by (Coinsurance % x FMV of property at time of loss ) x Loss

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When there is a total loss, pay according to the policy and do not work the coinsurance formula.
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Using the formula from problem 1:
$30,000 divided by (80% x $300,000) x $200,000 = $25,000

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   *
To: Cindy
Subject: Agency Coupled with an 9nterest

An Ơagency coupled with an interestơ commonly occurs where an agent has an interest in the subject
matter of the agency. The principal does not have the right to terminate the agency. Only the agent
has the right to terminate the agency.

9n this case, you have appointed the bank as your agent to collect rents. Jecause the bank, in
essence, paid money (the $500,000 loan) in exchange for the appointment, it has an agency coupled
with an interest. Therefore, you do not have the right to terminate its agency.

9n sum, you do not have the right to collect your own rents until the bank decides to terminate its
agency relationship or until the bank/agent no longer has an interest in the subject matter.
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