Practice questions · Finance & Accounting
US CPA (AICPA): Practice Questions
Original concept-check questions for the US CPA Exam across Auditing (AUD), Financial Accounting & Reporting (FAR) and Taxation & Regulation (REG). Each answer is explained, including why the others are wrong. Filter by domain or difficulty. These test understanding of public concepts - not real exam questions, and not tax advice.
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The purpose of an audit engagement letter is to:
Correct answer: C. The engagement letter sets out scope, objectives and responsibilities. An audit cannot guarantee no fraud; the opinion is formed after work is done; and it does not replace the separate management representation letter. -
An unmodified (unqualified) audit opinion means:
Correct answer: A. An unmodified opinion states the statements are fairly presented in all material respects under the framework. It is not investment advice, not a fraud guarantee, and audits test on a sample/risk basis, not every transaction. -
Professional skepticism requires an auditor to:
Correct answer: B. Professional skepticism is a questioning mindset and critical evaluation of evidence - neither assuming dishonesty nor blindly trusting. Full-population testing is not what skepticism means. -
Which audit evidence is generally the most reliable?
Correct answer: C. Evidence obtained directly from an independent external source (a bank confirmation) is generally most reliable. Client-provided copies, verbal management assurances and internal memos are weaker. -
Under accrual accounting, revenue is recognized when:
Correct answer: B. Accrual accounting recognizes revenue when earned, not when cash arrives. Invoicing or year-end timing do not by themselves trigger recognition. -
The basic accounting equation is:
Correct answer: B. Assets = Liabilities + Equity is the fundamental identity: what the entity owns equals creditors' claims plus owners' claims. 'Equity = Assets + Liabilities' and 'Assets = Liabilities - Equity' rearrange the terms wrongly, and 'Revenue - Expenses = Assets' confuses income-statement results with the balance-sheet identity. -
Which statement reports financial position at a single point in time?
Correct answer: B. The balance sheet is a snapshot at a date. The income, cash-flow and retained-earnings statements all cover a period of time. -
The matching principle states that:
Correct answer: D. Matching aligns expenses with the revenues they produce in the same period. It is unrelated to the balance-sheet identity, does not mandate cash basis, and does not defer revenue indefinitely. -
Depreciation is best described as:
Correct answer: D. Depreciation systematically allocates cost over useful life; it is not a market-value adjustment, a cash flow, or a valuation method. -
Which business structure generally provides both pass-through taxation and limited liability?
Correct answer: C. S corporations and LLCs typically combine pass-through taxation with limited liability. A C corporation has limited liability but is taxed at the entity level; sole proprietorships and general partnerships are pass-through but lack limited liability. -
C corporation profits are generally taxed:
Correct answer: B. C corporation profits face double taxation: once at the corporate level, then again as dividends taxed to shareholders. They are not tax-free when reinvested, not taxed only once at the shareholder level (that describes a pass-through entity), and not deferred until the company is sold. -
In agency law, authority a principal creates through conduct that leads a third party to reasonably believe an agent is authorized is called:
Correct answer: D. Apparent authority arises from the principal's conduct toward third parties. Express authority is explicitly granted; fiduciary duty is an obligation, not authority; ratification is after-the-fact approval. -
The current US CPA Exam consists of:
Correct answer: C. Under the current CPA Evolution model, candidates take three core sections (AUD, FAR, REG) plus one discipline section they choose (BAR, ISC or TCP). Two, five, and a single comprehensive exam all state the wrong structure. -
A CPA license is maintained through:
Correct answer: D. Licensed CPAs maintain their license via state-mandated CPE (often around 40 hours/year). You do not re-sit the exam, and dues alone do not satisfy CPE. -
The going-concern assumption presumes that a business will:
Correct answer: A. Going concern presumes the business will continue operating for the foreseeable future, so assets are not stated at liquidation values. Being sold within a year, dropping accrual accounting, and paying no taxes all contradict or are unrelated to the assumption. -
A liability is best described as:
Correct answer: A. A liability is a present obligation. What a company owns is an asset; equity and revenue are different elements. -
Accounts receivable is classified as a(n):
Correct answer: C. Receivables are amounts owed to the company, a right to future cash, so they are assets, not liabilities, expenses or equity. -
On the statement of cash flows, buying equipment is classified as a(n):
Correct answer: A. Purchasing long-term assets is an investing activity. Operating covers day-to-day items and financing covers debt/equity. -
Reporting inventory at the lower of cost or net realizable value reflects the principle of:
Correct answer: B. Writing inventory down to the lower of cost or net realizable value reflects conservatism (prudence): recognise likely losses promptly. Revenue recognition governs when to record revenue, matching pairs expenses with revenue, and going concern assumes continued operation - none drives the write-down. -
Retained earnings primarily increase when a company:
Correct answer: A. Net income raises retained earnings (dividends reduce it). Share issuance affects paid-in capital; buying equipment and borrowing do not change retained earnings. -
In auditing, materiality refers to:
Correct answer: B. Materiality is about whether a misstatement could change a user's decision. Audit length, fees and staffing are unrelated. -
The primary purpose of a company's internal controls is to:
Correct answer: C. Controls give reasonable (not absolute) assurance and do not eliminate all fraud, set prices, or replace the audit. -
Audit risk is commonly modeled as the combination of inherent risk, control risk and:
Correct answer: C. The audit risk model is inherent x control x detection risk. The other risks are financial, not audit-model, components. -
Auditor independence requires that the auditor:
Correct answer: B. Independence means avoiding relationships that impair objectivity. Owning shares, doing the client's books or guaranteeing results all impair it. -
In the US, an individual reports personal income tax on:
Correct answer: C. Individuals file Form 1040. Form 1120 is for C corporations, 941 is payroll tax, and W-9 requests a taxpayer ID. -
A taxpayer generally chooses between the standard deduction and:
Correct answer: B. A taxpayer chooses between the standard deduction and itemizing deductions, taking whichever is larger. A refund-anticipation loan is a financing product, paying no tax is not an option, and a tax credit reduces tax directly rather than being an alternative to the standard deduction. -
Under the statute of frauds, which contract generally must be in writing to be enforceable?
Correct answer: C. Contracts for the sale of land must be written. Small everyday transactions are not within the statute of frauds. -
A sole proprietor's personal liability for business debts is:
Correct answer: D. A sole proprietorship gives no liability shield, so liability is unlimited. An LLC or corporation would limit it. -
Under the AICPA Code of Professional Conduct, a CPA in public practice must maintain:
Correct answer: C. The AICPA Code requires integrity, objectivity and independence. Keeping a single exclusive client, meeting a sales quota, and hiding information from regulators are not requirements - the last would actually breach professional conduct. -
After passing the first section of the CPA Exam, a candidate must pass the remaining sections within:
Correct answer: A. Conditional credit expires after a rolling window (many boards moved from 18 to 30 months). It is neither as short as 6 months nor unlimited. -
The three components of the audit risk model are inherent risk, control risk and:
Correct answer: A. Audit risk is modeled as inherent risk times control risk times detection risk. Market, liquidity and reputational risk are business or financial risks, not components of the audit risk model. -
If an auditor assesses control risk as high, the auditor will generally respond by:
Correct answer: C. Higher control risk requires lower acceptable detection risk, so the auditor increases the extent of substantive testing. Reducing testing would raise audit risk, a high control-risk assessment does not by itself trigger an adverse opinion, and the audit still proceeds. -
A 'disclaimer of opinion' is issued when the auditor:
Correct answer: B. A disclaimer is issued when the auditor cannot obtain sufficient appropriate evidence and the possible effects on the financial statements could be both material and pervasive. Being satisfied yields an unmodified opinion, a small immaterial error does not warrant a disclaimer, and praising management is not an audit conclusion. -
An 'adverse opinion' indicates that the financial statements:
Correct answer: D. An adverse opinion states that misstatements are both material and pervasive, so the statements are not fairly presented. Fair presentation gives an unmodified opinion, minor issues do not justify an adverse opinion, and 'not audited' would be a disclaimer or no report. -
Tests of controls are performed to evaluate:
Correct answer: A. Tests of controls assess whether controls are designed and operating effectively, supporting a lower control-risk assessment. Testing dollar accuracy of balances is a substantive procedure, the stock price is irrelevant, and independence is a separate ethical requirement. -
A management representation letter in an audit is:
Correct answer: C. The representation letter is obtained from management near the end of the audit to confirm certain assertions and responsibilities in writing. It is not written by the auditor, does not replace other audit evidence, and is not advertising. -
An auditor's responsibility regarding fraud is to:
Correct answer: B. The auditor plans and performs the audit to obtain reasonable assurance that the statements are free of material misstatement from error or fraud. An audit cannot guarantee no fraud exists, must not ignore fraud, and prosecution is not the auditor's role. -
Subsequent events are events occurring:
Correct answer: D. Subsequent events occur after the balance sheet date but before the statements are issued and may require adjustment or disclosure. They do not occur before the audit year, are not far-future events, and are not limited to the first day of fieldwork. -
An auditor confirms accounts receivable balances mainly to test the assertion of:
Correct answer: A. Confirming receivables with customers primarily tests existence (and to some extent rights and valuation) of the recorded balances. It does not test marketing strategy, employee morale, or the tax rate. -
The completeness assertion for liabilities is concerned with whether:
Correct answer: C. Completeness addresses whether all liabilities that should be recorded have been recorded, guarding against understatement. Existence asks whether recorded items are real, rights and obligations address ownership, and presentation order is not an assertion. -
Under the revenue recognition model, the first step is to:
Correct answer: B. The five-step model begins with identifying the contract with the customer. Recognizing revenue is the final step, allocating the transaction price is step four, and recording cash is not one of the five steps. -
A deferred revenue (unearned revenue) account is classified as a:
Correct answer: D. Deferred revenue is a liability representing cash received before the performance obligation is satisfied. It is not yet revenue, not an asset, and not part of equity. -
The allowance for doubtful accounts is a:
Correct answer: A. The allowance for doubtful accounts is a contra-asset that reduces gross receivables to net realizable value. It is not a liability, not revenue, and not equity. -
Under US GAAP, when the cost of inventory exceeds its market value, inventory is generally written down under the:
Correct answer: C. Inventory is reported at the lower of cost or market (net realizable value for many methods), reflecting prudence. There is no 'higher of cost or market' rule, FIFO is a cost-flow assumption rather than a valuation floor, and going concern is a separate assumption. -
During a period of rising prices, using LIFO (last-in, first-out) generally results in:
Correct answer: B. With rising prices, LIFO charges the newest, higher costs to cost of goods sold, lowering net income and taxes relative to FIFO. It does not raise income, does have an effect, and it leaves lower (older-cost) ending inventory than FIFO. -
Goodwill recorded in a business combination is:
Correct answer: D. Under US GAAP, goodwill is not amortized in general but tested for impairment (with a private-company amortization option available). It is not uniformly amortized over five years, not expensed immediately, and not a liability. -
A finance (capital) lease is recorded by the lessee by recognizing:
Correct answer: A. Under current lease accounting, the lessee recognizes a right-of-use asset and a corresponding lease liability. Recognizing nothing or only rent expense describes outdated or operating-only treatment, and the lessee does not record revenue on a lease it holds. -
The statement of cash flows classifies the payment of a cash dividend to shareholders as a(n):
Correct answer: C. Paying dividends to shareholders is a financing activity. Operating covers day-to-day items, investing covers long-term assets, and a cash dividend payment is a cash outflow, not a non-cash item. -
When a company collects cash in advance from a customer, the journal entry includes a:
Correct answer: B. Cash received before the work is done is recorded by debiting cash and crediting unearned (deferred) revenue, a liability. Revenue is not yet earned (so not debited), an expense is not credited here, and equity is not directly debited. -
Treasury stock represents:
Correct answer: D. Treasury stock is a company's own previously issued shares that it has bought back, shown as a reduction of equity. It is not government bonds, not cash, and not revenue. -
A contingent liability that is probable and reasonably estimable should be:
Correct answer: A. Under US GAAP, a loss contingency that is probable and reasonably estimable is accrued and recorded. It is not ignored, certainty is not required, and 'disclosed but never accrued' applies to reasonably possible, not probable-and-estimable, contingencies. -
Bonds issued at a discount were sold at a price:
Correct answer: C. A bond sells at a discount when its stated (coupon) rate is below the market rate, so investors pay less than face value. Selling above face value is a premium, equal to face value is par, and the coupon payment is the periodic interest, not the issue price. -
A gift received by an individual is generally:
Correct answer: B. Gifts are generally excluded from the recipient's gross income, with any gift tax falling on the donor in limited cases. They are not income to the recipient, not subject to payroll tax, and not reported on a wage statement. -
For US tax purposes, a long-term capital gain results from selling a capital asset held for:
Correct answer: D. A holding period of more than one year produces a long-term capital gain taxed at preferential rates. One year or less is short-term, very short holdings are also short-term, and the holding period rule applies regardless of whether the asset is stock. -
A partner's basis in a partnership interest generally increases when:
Correct answer: A. A partner's basis increases by their share of partnership income and additional contributions. Withdrawals and distributions reduce basis, and an allocated loss also decreases basis, so only the income allocation raises it. -
The kiddie tax may apply to a child's:
Correct answer: C. The kiddie tax can tax a child's net unearned income (such as interest and dividends) above a threshold at the parents' rate. Earned wages, gifts received, and tuition are not what the kiddie tax targets. -
Under contract law, consideration refers to:
Correct answer: B. Consideration is the bargained-for exchange of something of value by each party, an element of an enforceable contract. It is not politeness, not the document's title, and not a government fee. -
Under the Uniform Commercial Code (UCC), the rules for the sale of goods apply to transactions involving:
Correct answer: D. UCC Article 2 governs the sale of movable, tangible goods. Real estate, personal services and employment contracts are governed by other bodies of law, not UCC sales rules. -
A taxpayer who fails to file a return by the due date, without an extension, may face:
Correct answer: A. Filing late without an extension can trigger a failure-to-file penalty (generally larger than the failure-to-pay penalty). It does not produce an automatic refund, reduce tax owed, or have no consequence. -
A tax preparer who takes an unreasonable position to understate a client's tax may be subject to:
Correct answer: C. Taking an unreasonable position to understate tax can expose a preparer to penalties under the Internal Revenue Code and professional discipline. An IRS bonus, automatic promotion, and 'no risk' are not realistic outcomes. -
Depreciation for US tax purposes on most tangible business property generally uses:
Correct answer: B. Most tangible business property is depreciated for tax using MACRS, which prescribes recovery periods and methods. Book straight-line is a financial-reporting choice, depreciation is allowed, and the customer does not choose the method. -
Under the current CPA Exam, the three Core sections are AUD, REG and:
Correct answer: D. The three Core sections are Auditing (AUD), Regulation (REG) and Financial Accounting and Reporting (FAR). BAR, ISC and TCP are the three Discipline options, of which a candidate chooses one. -
The TCP Discipline section of the CPA Exam focuses primarily on:
Correct answer: A. TCP stands for Tax Compliance and Planning, the Discipline centered on more advanced individual and entity tax topics. ISC covers information systems and controls, BAR covers business analysis and reporting, and auditing is the separate AUD Core section. -
The ISC Discipline section of the CPA Exam emphasizes:
Correct answer: C. ISC stands for Information Systems and Controls, covering IT governance, security, data and SOC engagements. Estate tax sits in tax sections, cost accounting is not an ISC focus, and marketing is outside the CPA Exam. -
Task-based simulations on the CPA Exam are designed to test a candidate's ability to:
Correct answer: B. Task-based simulations test application of knowledge to realistic, case-style scenarios, often using documents and research. They go beyond memorizing definitions, are not a typing test, and reward applied reasoning rather than guessing. -
Materiality in financial reporting means information is material if:
Correct answer: D. Information is material if its omission or misstatement could influence the economic decisions of users. Formatting in bold, a fixed billion-dollar threshold, and a limit to inventory are not how materiality is defined. -
The accrual concept of 'accrued expenses' refers to expenses that have been:
Correct answer: A. Accrued expenses are incurred but not yet paid, recorded with a liability such as accrued salaries payable. Paid-but-not-incurred describes a prepaid asset, 'neither' is not an accrual, and a refund is unrelated. -
A prepaid expense, such as prepaid insurance, is initially recorded as a(n):
Correct answer: C. A prepaid expense is initially an asset because it represents a future economic benefit, expensed as it is used up. It is not a liability, not immediately an expense, and not revenue. -
Earnings per share (EPS) is generally calculated as net income available to common shareholders divided by:
Correct answer: B. Basic EPS divides net income available to common shareholders by the weighted average common shares outstanding. Dividing by total assets, total liabilities, or revenue does not produce EPS. -
Under double-entry bookkeeping, every transaction affects:
Correct answer: D. Double-entry recording affects at least two accounts so that total debits equal total credits. It is not limited to one account, the income statement alone, or cash alone. -
An audit committee of a public company is primarily responsible for:
Correct answer: A. The audit committee oversees financial reporting and the relationship with the external auditor, supporting auditor independence. It does not do day-to-day bookkeeping, set product prices, or run marketing. -
Analytical procedures used during audit planning help the auditor to:
Correct answer: B. Planning-stage analytical procedures highlight unusual or unexpected relationships that may indicate higher-risk areas. They do not replace all substantive testing, set the fee, or prepare the client's tax return. -
When an auditor lacks independence with respect to a client, the auditor should:
Correct answer: D. Without independence, the auditor cannot issue an audit opinion on the client's financial statements. Issuing an unmodified opinion would be improper, charging more does not cure the impairment, and auditing only cash does not restore independence. -
A 'qualified opinion' is appropriate when:
Correct answer: A. A qualified opinion is used when a misstatement or scope limitation is material but not pervasive, so an 'except for' qualification is appropriate. No issues yields an unmodified opinion, no audit yields a disclaimer, and praise is not an opinion type. -
Closing entries at period-end are used to:
Correct answer: D. Closing entries move temporary accounts (revenues, expenses, dividends) to retained earnings and reset them to zero for the next period. They do not record fixed assets, pay dividends in cash, or issue stock. -
A trial balance is prepared to:
Correct answer: A. A trial balance checks that total debits equal total credits, a basic arithmetic verification before preparing statements. It does not guarantee no errors (some errors keep it balanced), does not compute market value, and does not replace the income statement. -
A nonprofit organization's financial statements under US GAAP report net assets classified by:
Correct answer: D. Nonprofits classify net assets as with donor restrictions or without donor restrictions. Par value and share class apply to corporate equity, and market capitalization is a public-company concept, not a nonprofit net-asset classification. -
Governmental fund accounting commonly uses which basis of accounting for the governmental funds?
Correct answer: A. Governmental funds use the modified accrual basis, focusing on current financial resources, while government-wide statements use full accrual. Pure cash basis and 'no basis' do not describe governmental fund accounting. -
An S corporation is generally limited in the number and type of shareholders it may have, including a cap of:
Correct answer: D. An S corporation is generally limited to 100 shareholders who must be eligible (generally US individuals and certain trusts and estates). It is not unlimited, not capped at one, and generally cannot have nonresident alien shareholders. -
An ordinary and necessary business expense is one that is:
Correct answer: A. An ordinary and necessary expense is common and accepted in the taxpayer's trade and helpful and appropriate for the business, making it deductible. Lavish unrelated costs and personal vacations are not deductible, and a capital asset is recovered through depreciation rather than expensed. -
A C corporation files its federal income tax return on:
Correct answer: D. A C corporation files Form 1120. Form 1040 is the individual return, Form 1065 is the partnership information return, and Form W-2 reports employee wages.
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