CPA FAR F4.M3 — Practice Questions
State & Local Government Accounting. Below are 7 real practice questions with worked explanations — a free sample of the F4.M3 set. The full adaptive version (spaced repetition, mastery checks, and the wider FAR bank) lives in the app.
Q1 · easy
The statement of changes in stockholders' equity reconciles the beginning and ending balances of each equity component. Which of the following is NOT a column typically presented in that statement?
- Common stock and additional paid-in capital
- Retained earnings
- Accumulated other comprehensive income
- ✓ Allowance for doubtful accounts
Why: The statement rolls forward the equity accounts: contributed capital (common/preferred stock + APIC), retained earnings, treasury stock, AOCI, and noncontrolling interest. The allowance for doubtful accounts is a contra-asset on the balance sheet, not an equity component, so it never appears as a column here.
Q2 · medium
During the year a company reports net income of $300,000 and an unrealized gain of $40,000 on available-for-sale debt securities. By how much does total stockholders' equity increase from these two items, before any dividends?
- ✓ $340,000
- $300,000
- $40,000
- $260,000
Why: Net income closes to retained earnings (+$300,000) and the unrealized AFS gain is other comprehensive income that closes to AOCI (+$40,000). Both are components of equity, so total equity rises $340,000. $300,000 ignores OCI; $40,000 counts only OCI; $260,000 wrongly nets the gain against income.
Q3 · hard
In Year 2, a company discovers it failed to record $90,000 of depreciation in Year 1 (a material error). The tax rate is 21%. How is this correction reported in the Year 2 statement of changes in stockholders' equity?
- ✓ As a $71,100 reduction of the beginning balance of retained earnings
- As a $90,000 reduction of Year 2 net income
- As a $71,100 reduction of accumulated other comprehensive income
- As a $90,000 reduction of additional paid-in capital
Why: A material prior-period error is a prior-period adjustment under ASC 250: it is corrected by restating and reducing the BEGINNING balance of retained earnings, net of tax — 90,000 × (1 − 0.21) = $71,100 — not by running it through current income. It is unrelated to OCI/AOCI or paid-in capital.
Q4 · medium
A corporation reacquires 5,000 shares of its own common stock for $25 per share, accounting for them under the cost method. In the statement of changes in stockholders' equity, this transaction is shown as a:
- ✓ $125,000 decrease in total equity, reported in a treasury stock column
- $125,000 increase in total equity, reported in additional paid-in capital
- $125,000 expense reducing net income for the period
- No effect, because the shares are still legally issued
Why: Treasury stock is a contra-equity account. Under the cost method, buying back 5,000 × $25 = $125,000 of stock is shown as a $125,000 reduction of total equity in the treasury stock column. It never touches the income statement, and although the shares remain issued, they are no longer outstanding — equity still falls.
Q5 · easy
On which date does a cash dividend reduce retained earnings in the statement of changes in stockholders' equity?
- ✓ The declaration date
- The date of record
- The payment date
- The fiscal year-end, regardless of declaration
Why: A cash dividend becomes a legal liability — and reduces retained earnings — on the DECLARATION date (debit retained earnings, credit dividends payable). The record date only identifies who gets paid, and the payment date settles the liability with cash; neither affects retained earnings.
Q6 · hard
A company with 100,000 shares of $1 par common stock outstanding (market price $15) declares a 10% small stock dividend. What is the effect on the components of stockholders' equity?
- ✓ Retained earnings decreases $150,000; common stock and APIC increase $150,000; total equity is unchanged
- Retained earnings decreases $10,000; total equity decreases $10,000
- Retained earnings decreases $150,000; total equity decreases $150,000
- No accounts change until the shares are issued
Why: A small stock dividend (<20–25%) is capitalized at fair value: 10,000 new shares × $15 = $150,000 is moved OUT of retained earnings and INTO contributed capital ($10,000 to common stock at par + $140,000 to APIC). It is a reclassification within equity, so total stockholders' equity is unchanged. Cash dividends reduce total equity; stock dividends do not.
Q7 · easy
Which transaction is reported in the statement of changes in stockholders' equity but does NOT affect net income?
- Sales revenue
- ✓ Declaration of a cash dividend
- Cost of goods sold
- Depreciation expense
Why: Declaring a dividend is a distribution to owners: it reduces retained earnings and appears in the statement of changes in equity, but it is not an expense and never affects net income. Revenue, COGS, and depreciation all flow through income.