REG CPA Practice Questions Explained: Calculating Individual Tax Liability and Certain Tax Credits

Calculating Individual Tax Liability and Certain Tax Credits

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In this video, we walk through 6 REG practice questions about calculating individual tax liability and certain tax credits. These questions are from REG content area 4 on the AICPA CPA exam blueprints: Federal Taxation of Individuals.

The best way to use this video is to pause each time we get to a new question in the video, and then make your own attempt at the question before watching us go through it.

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Calculating Individual Tax Liability

Calculating tax liability is a broad area with many nuances that we cannot cover exhaustively in a single post. We will instead focus on some of the most important topics and credits that frequently appear on the exam.

Progressive US Tax Brackets

The U.S. employs a progressive tax system, where tax rates increase as taxable income rises. There are several income brackets, each taxed at a corresponding rate. When taxable income falls into a higher bracket, only the income within that bracket’s range is taxed at the higher rate, not the taxpayer’s entire income. This results in a “marginal” rate, which applies only to the income within a particular bracket. The system is designed to be equitable by taxing higher income at higher rates.


Imagine if taxpayer A has a taxable income of $50,000. The first $10,000 is taxed at 10% ($1,000 tax), the next $20,000 at 12% ($2,400 tax), and the remaining $20,000 at 22% ($4,400 tax), all totaling $7,800. Even as A’s income enters a higher bracket, only the amount within that bracket is taxed at the higher rate.

The Child Tax Credit

The Child Tax Credit is a benefit provided to taxpayers for each qualifying child under a certain age, reducing their tax liability on a dollar-for-dollar basis. To qualify, a child must be related to the taxpayer, under 17 at the end of the tax year, claimed as a dependent, and must have lived with the taxpayer for more than half of the year. The credit amount per child is subject to income thresholds, above which the credit begins to phase out (however, these are very high limits and most likely will not be tested on the CPA exam.)


Consider taxpayer B, a single taxpayer who has two children and earns $60,000 annually. If the credit is $2,000 per child, B could reduce their tax liability by $4,000.

Net Investment Income Tax (NIIT)

The NIIT is a 3.8% tax on certain net investment income of individuals, estates, and trusts that have income above statutory threshold amounts. Investment income can include, but isn’t limited to, interest, dividends, capital gains, rental and royalty income. The tax applies to the lesser of the taxpayer’s net investment income or the amount by which their modified adjusted gross income exceeds the statutory thresholds.


If taxpayer C has a modified adjusted gross income of $250,000 and net investment income of $30,000, and the NIIT threshold is $200,000, C would owe an additional 3.8% tax on the lesser of the net investment income ($30,000) or the excess of MAGI over the threshold ($50,000) —in this case, $30,000.

$30,000 x 3.8% = $1,140

The Kiddie Tax

The Kiddie Tax is designed to prevent parents from shifting income to their children’s lower tax brackets to reduce tax liability. It taxes a child’s unearned income—such as from dividends or interest—above a certain threshold at the parents’ higher tax rates. If the child also has earned income, the Kiddie Tax doesn’t affect it, and a standard deduction is applied to reduce the unearned income subject to tax.


Taxpayer D’s child earns $3,000 in dividends in a year. If the Kiddie Tax threshold is $2,200 (for example) and the child’s standard deduction is $1,100, only the income exceeding $2,200 minus the $1,100 deduction is taxed at D’s rate. Therefore, the child’s tax liability at the parents’ rate would apply to $800 of the dividends.

$3,000 – $1,100 Standard Deduction for Dependent = $1,900.

$1,900 – $1,100 left till the Kiddie Tax threshold = $800

So, $1,100 is not taxed because it was under the standard deduction. $1,100 is taxed at the child’s marginal tax rate, and $800 is taxed at the parent’s marginal tax rate.

Retirement Savings Contributions Credit (Saver’s Credit)

This nonrefundable credit encourages individuals with lower to moderate incomes to make contributions to retirement accounts. Eligible taxpayers may claim a credit for a portion of their contributions to IRAs, 401(k)s, and other qualified retirement plans. The credit rate depends on the taxpayer’s income and filing status, with lower-income taxpayers receiving a higher credit rate on a maximum contribution amount.


Example AGI Ranges for the credit:

AGI up to $20,000: 50% of the contribution
AGI $20,001 to $30,000: 20% of the contribution
AGI $30,001 to $40,000: 10% of the contribution
AGI above $40,000: Not eligible for the credit

Taxpayer E, earning $20,000, contributes $2,000 to a retirement account. If the credit rate for E’s income level is 50%, E can claim a credit of $1,000, directly reducing their tax liability by that amount.

Foreign Tax Credit

The Foreign Tax Credit prevents double taxation by allowing taxpayers to credit the amount of paid or accrued taxes to a foreign government against their U.S. tax liability on foreign-earned income. The credit is limited to the portion of U.S. tax liability attributable to foreign-source income. It is generally the lesser of the actual foreign taxes paid or the U.S. tax that would have been paid on the same income. Excess credits may be carried forward 10 years or back 1 year.


Taxpayer F earns $50,000 of income in a foreign country, paying $10,000 in foreign income taxes. If F’s U.S. tax liability on that income is $15,000, F can use the full $10,000 as a credit against their U.S. tax liability, provided it does not exceed the U.S. tax on the foreign income.

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