Test Prep Test Prep Certifications BUSINESS-ENVIRONMENT-AND-CONCEPTS Questions & Answers

• Question 431:

  Which of the following is an advantage of forming a limited liability company (LLC) as opposed to a partnership?

  A. The entity may avoid taxation.

  B. The entity may have any number of owners.

  C. The owner may participate in management while limiting personal liability.

  D. The entity may make disproportionate allocations and distributions to members.

  Correct Answer: C

  Choice "c" is correct. A member in a limited liability company has limited liability and the ability to manage,

  while a partner in a general partnership has full liability and the ability to manage. Choice "a" is incorrect.

  Generally, both entities' profits are taxable at the ownership level, but a Limited Liability Company may be

  taxed as an entity if it so elects.

  Choice "b" is incorrect. Both entities may have any number of owners.

  Choice "d" is incorrect. Both entities may make disproportionate allocations and distributions to their

  owners.

• Question 432:

  Which of the following statements is correct regarding both debt and common shares of a corporation?

  A. Common shares represent an ownership interest in the corporation, but debt holders do not have an ownership interest.

  B. Common shareholders and debt holders have an ownership interest in the corporation.

  C. Common shares typically have a fixed maturity date, but debt does not.

  D. Common shares have a higher priority on liquidation than debt.

  Correct Answer: A

  Choice "a" is correct. Common shares represent an investment in the corporation whereby the common

  shareholder becomes a part owner of the corporation. A debt holder is a creditor of the corporation. The

  corporation has borrowed money from the debt holder and promises to repay at a later date. A debt holder

  is not an owner of the corporation.

  Choice "b" is incorrect. Unlike a common shareholder, a debt holder does not have an ownership interest

  in the corporation.

  Choice "c" is incorrect. Common shares do not have a fixed maturity date, but debt securities do. This

  answer is backwards.

  Choice "d" is incorrect. Upon liquidation of a corporation, the creditors of the corporation are paid first.

  After the creditors are paid, the shareholders are paid on a pro rata basis. Thus, debt holders (creditors)

  have a higher priority than stockholders.

• Question 433:

  In which type of business entity is the entire ownership interest most freely transferable?

  A. General partnership.

  B. Limited partnership.

  C. Corporation.

  D. Limited liability company.

  Correct Answer: C

  Choice "c" is correct. Among the business entities listed, entire ownership interests are most freely transferable in a corporation. Unless transferability is restricted by contract (restricted shares or voting trusts or voting agreements), there are no restrictions on the sale of corporate stock (the common stock represents the stockholders' ownership interest). The right to transfer ownership interests freely is one of the advantages of the corporate form of business. Choice "a" is incorrect. A general partner in a general partnership may assign his or her right to receive profits or surplus. A general partner cannot assign his interest and confer partnership status on the assignee without unanimous consent of all other partners. Choice "b" is incorrect. Both general partners and limited partners in a limited partnership may assign the right to receive profits and surplus. Neither general nor limited partners can confer general or limited partnership status on the assignee without the unanimous consent of all general and all limited partners. Choice "d" is incorrect. In most states, limited liability company (LLC) members may not sell and confer ownership interest without the consent of all LLC members.

• Question 434:

  Smith was an officer of CCC Corp. As an officer, the business judgment rule applies to Smith in which of the following ways?

  A. Because Smith is not a director, the rule does not apply.

  B. If Smith makes, in good faith, a serious but honest mistake in judgment, Smith is generally not liable to CCC for damages caused.

  C. If Smith makes, in good faith, a serious but honest mistake in judgment, Smith is generally liable to CCC for damages caused, but CCC may elect to reimburse Smith for any damages Smith paid.

  D. If Smith makes, in good faith, a serious but honest mistake in judgment, Smith is generally liable to CCC for damages caused, and CCC is prohibited from reimbursing Smith for any damages Smith paid.

  Correct Answer: B

  Choice "b" is correct. The business judgment rule applies to officers as well as directors, who in their capacity, act in a manner the officer believes to be in the best interest of the corporation, and with the care an ordinarily prudent person in a like position would exercise. If the standards of the business judgment rule are met, the officer is not liable to the company for resulting damages. Choices "a", "c", and "d" are incorrect, per the above rule.

• Question 435:

  Which of the following statements describes the same characteristic for both an S corporation and a C corporation?

  A. Both corporations can have more than 100 shareholders.

  B. Both corporations have the disadvantage of double taxation.

  C. Shareholders can contribute property into a corporation without being taxed.

  D. Shareholders can be either citizens of the United States or foreign countries.

  Correct Answer: C

  Choice "c" is correct. Either entity's shareholders may contribute property to the corporations without being

  taxed and may contribute such property as an exchange for stock as appraised by the directors. Choice "a"

  is incorrect. An S corporation may not have more than 100 shareholders, although a C corporation may

  have as many shareholders as desired.

  Choice "b" is incorrect. Only the C corporation is subject to the double taxation disadvantage.

  Choice "d" is incorrect. Only an S corporation is prohibited from having foreign country shareholders.

• Question 436:

  Food Corp. owned a restaurant called The Ambers. The corporation president, T.J. Jones, hired a contractor to make repairs at the restaurant, signing the contract, "T.J. Jones for The Ambers." Two invoices for restaurant repairs were paid by Food Corp. with corporate checks. Upon presenting the final invoice, the contractor was told that it would not be paiD. The contractor sued Food Corp. Which of the following statements is correct regarding the liability of Food Corp.?

  A. It is not liable because Jones is liable.

  B. It is not liable because the corporation was an undisclosed principal.

  C. It is liable because Jones is not liable.

  D. It is liable because Jones had authority to make the contract.

  Correct Answer: D

  Choice "d" is correct. Where an agent enters into a contract on behalf of a principal and discloses the existence and identity of the principal and acts with authority, the principal is liable and the agent is not liable. Here, Jones signed the contract with an indication that he was signing for the corporation. The president of a corporation is an agent of the corporation and has apparent authority to enter contracts that appear to be within the ordinary scope of the corporation's business. The restaurant repairs here appear to be with the scope of Food Corp.'s business. Therefore, Food Corp. will be bound because Jones had at least apparent authority. Choice "a" is incorrect, per the rule stated above. Choice "b" is incorrect. The president signed as acting on behalf of the corporation, thus disclosing the principal. Choice "c" is incorrect, per the rule stated above.

• Question 437:

  Which of the following decreases stockholder equity?

  A. Investments by owners.

  B. Distributions to owners.

  C. Issuance of stock.

  D. Acquisition of assets in a cash transaction.

  Correct Answer: B

  Choice "b" is correct. Distributions to owners, typically in the form of dividends, will serve to reduce stockholders' equity. Choice "a" is incorrect. Investments by owners, typically in the form of stock purchases or contributions, will serve to increase shareholders' equity. Choice "c" is incorrect. Issuance of stock by sale will increase shareholders' equity, while issuance of stock dividends will have no effect on total shareholders' equity. Stock dividends will reduce the book value of each share outstanding. Choice "d" is incorrect. Acquisition of assets with cash will have no effect on total stockholders' equity. The acquisition of assets with cash will effectively reclassify assets from one type to another without impacting liabilities or equity.

• Question 438:

  Which of the following may not own shares in an S corporation?

  A. Individuals.

  B. Estates.

  C. Trusts.

  D. Corporations.

  Correct Answer: D

  Choice "d" is correct. Shareholders must be individuals, estates, or certain trusts. Corporations are not

  permitted to be shareholders of an S corporation.

  Choices "a", "b", and "c" are incorrect, per the above Explanation.

• Question 439:

  Which of the following parties is liable to repay an illegal distribution to a corporation?

  A. A director not breaching his or her duty in approving the distribution and the corporation is solvent.

  B. A director not breaching his or her duty in approving the distribution and the corporation is insolvent.

  C. A shareholder not knowing of the illegality of the distribution and the corporation is solvent.

  D. A shareholder knowing of the illegality of the distribution and the corporation is insolvent.

  Correct Answer: D

  Choice "d" is correct. Illegal dividends from an insolvent company must be repaid to the corporation for the benefit of the creditors. A shareholder who knowingly accepts an illegal dividend is liable to return it. Choices "a" and "b" are incorrect. If a director does not breach any duties in approving a distribution, the director is protected by the business judgment rule and is not liable for the distribution whether the corporation is solvent or insolvent. Choice "c" is incorrect. A shareholder of a solvent corporation who unknowingly accepts an illegal distribution is not obligated to repay the distribution.

• Question 440:

  Following the formation of a corporation, which of the following terms best describes the process by which the promoter is released from, and the corporation is made liable for, pre-incorporation contractual obligations?

  A. Assignment.

  B. Novation.

  C. Delegation.

  D. Accord and satisfaction.

  Correct Answer: B

  Choice "b" is correct. A promoter is personally liable for the contracts he or she enters into prior to incorporation. A corporation may become liable by adoption of the contract, and through the process of novation (an agreement among all of the parties), the promoter may be released from contractual obligations. Choice "a" is incorrect. An assignment is a transfer of a contractual duty to perform. After the transfer, both the assignor and assignee may be held liable for performance. The assignor is not, thereby, released from liability. Choice "c" is incorrect. A delegation is a transfer of a contractual duty to perform. Both the delegor and delegee are liable to perform after the assignment; it does not release the promoter from liability. Choice "d" is incorrect. An accord is an agreement to change the performance due under a contract. Once the new terms are performed or satisfied, the original contract terms are terminated. Such an agreement does not automatically result in release of a promoter.