CPA Exam: Regulation

The CPA Exam’s Regulation section, commonly called REG, tests whether you can apply federal taxation, business law, and professional responsibilities in situations that mirror real client and firm work. It is less about memorizing isolated rules and more about demonstrating sound judgment within a defined legal framework. Candidates who treat REG as a set of interconnected systems, rather than separate chapters, tend to perform better and retain more of what they study.

This article breaks down what REG covers, why it matters for CPA licensure, and how to prepare in a practical, high-yield way.

What REG Covers and Why It Matters

REG focuses on three pillars:

• Federal taxation for individuals and entities
• Business law including contracts, agency, debtor-creditor topics, and bankruptcy
• Ethics and professional responsibilities relevant to tax practice and the CPA role

Together, these areas test a CPA’s ability to navigate compliance and risk. A tax return is a legal document. A business decision can trigger tax consequences. A client engagement raises ethical obligations. REG sits at the intersection of these realities, which is exactly where CPAs operate.

Federal Taxation: The Core of REG

Federal taxation generally occupies the largest share of candidate attention because it includes many rules, thresholds, and exceptions. The key is understanding how the pieces connect: filing status affects rates, which affect liability; income characterization affects inclusion, timing, and deductions; entity choice affects who pays tax and when.

Individual Taxation: Income, Deductions, Credits, and Filing Mechanics

Individual taxation questions typically center on determining taxable income and tax liability using correct classifications.

Gross income and inclusions. You need to recognize what is included in gross income and how items are characterized. Wages are straightforward, but other items can be tested through timing and characterization (for example, whether something is ordinary income versus capital gain).

Above-the-line versus below-the-line. Understanding which deductions reduce adjusted gross income (AGI) versus those that are itemized matters because many limitations are driven by AGI. Even when a question looks computational, it is often testing concept: “Does this affect AGI?”

Credits versus deductions. A deduction reduces taxable income; a credit reduces tax liability dollar-for-dollar. Candidates commonly lose points by treating a credit like an itemized deduction or overlooking eligibility factors embedded in a fact pattern.

Filing and procedural basics. The exam often frames scenarios around filing status, dependency, and related compliance decisions. You should be comfortable reading a vignette and determining who can claim whom, and what that changes.

Property Transactions: Basis and Gains as a Unifying Theme

REG frequently uses property transactions because they combine multiple concepts into one calculation.

Basis is a recurring anchor. If you keep basis straight, many questions become manageable. Basis affects gain or loss, depreciation, and the consequences of later distributions or sales.

A useful mental model is:

• Start with initial basis
• Adjust for improvements, depreciation, and other capital changes
• Compute amount realized on disposition
• Recognize and characterize the gain or loss

Characterization then affects tax treatment. For example, long-term capital gain treatment differs from ordinary income treatment. While the exam can test rules around holding period and types of assets, many errors start earlier when candidates compute basis incorrectly.

Entity Taxation: How the Business Form Drives the Tax Outcome

REG expects you to understand how different entity types are taxed and what happens when money or property moves between the entity and its owners.

Flow-through entities. Partnerships and S corporations generally pass taxable items to owners, who report them on their own returns. That creates frequent exam themes: separately stated items, basis limitations, and distribution consequences.

C corporations. C corporations are separate taxpayers. That changes the analysis: corporate-level tax, potential shareholder-level tax on dividends, and different treatment of losses compared to pass-through structures.

Formation and distributions. A common REG pattern is testing what happens when property is contributed to an entity, and what happens when it comes back out. These are basis-driven topics, and they reward candidates who can apply a consistent approach. When the fact pattern includes liabilities, the complexity increases, and so does the opportunity for partial credit if your framework is correct.

Practical Example: The Same Transaction, Different Entity

Imagine an owner wants to take value out of a business:

• In a partnership, a distribution may be tax-free up to the partner’s basis, but it can trigger gain in certain cases and it can affect basis going forward.
• In an S corporation, distributions interact with accumulated adjustments and basis in stock and debt.
• In a C corporation, payments to shareholders might be dividends, compensation, or a return of capital, each with different tax effects.

REG is designed to test whether you recognize that the “same” business move can carry different tax consequences depending on entity type.

Business Law: Contracts, Agency, Debtor-Creditor, and Bankruptcy

Business law questions in REG are not meant to turn you into an attorney. They are meant to ensure you understand foundational legal principles CPAs regularly encounter, especially when interpreting agreements, assessing enforceability, or identifying exposure.

Contracts: Formation, Enforceability, and Remedies

You should be comfortable identifying whether a valid contract exists and what happens when it is breached.

Key concepts include:

• Offer and acceptance and whether there was mutual assent
• Consideration and when it is required
• Defenses to enforceability, such as misrepresentation, duress, or incapacity
• Statute of frauds situations where a contract must be in writing
• Remedies, including damages and specific performance in appropriate cases

REG business law questions often reward careful reading. Small facts, such as whether goods are involved, whether the agreement can be performed within a year, or whether a party is a minor, can determine the outcome.

Agency: Authority and Liability

Agency law comes up because CPAs routinely interact with agents, employees, officers, and representatives.

Focus areas include:

• Actual authority versus apparent authority
• Principal liability for an agent’s actions
• Duties agents owe principals and vice versa

In exam terms, agency questions frequently ask: “Who is bound by this act?” If you can identify the principal-agent relationship and the type of authority, you can usually reach the correct conclusion.

Debtor-Creditor and Bankruptcy: Priority and Protections

Debtor-creditor topics and bankruptcy appear because they affect recoverability, risk assessment, and financial outcomes.

Key themes include:

• How secured versus unsecured claims differ
• General priority concepts
• The effect of bankruptcy proceedings on collection and obligations

Even at a high level, REG expects you to understand what bankruptcy can and cannot do, and why creditor rights depend on the nature of the claim and the process followed.

Ethics and Professional Responsibilities: Standards in Tax Practice

Ethics in REG addresses professional conduct in tax engagements and compliance work. The exam emphasizes that technical competence is not enough; CPAs must also follow rules about integrity, objectivity, and due care.

Commonly tested areas include:

• Responsibilities when preparing returns and supporting positions
• Expectations around documentation and reasonable basis
• Professional behavior when facing conflicts of interest or client pressure

These questions are often scenario-based. They test whether you recognize the appropriate professional response, especially when a client wants an aggressive position without support or asks you to ignore facts.

How to Study for REG Effectively

REG can feel broad. The best preparation is structured, applied, and repetitive in the right places.

Build a Framework Before You Chase Details

Start by understanding the major systems:

• Individual tax return flow: income → adjustments → AGI → deductions → taxable income → credits → tax
• Entity taxation: how income is determined, how it is reported, how basis works, and how distributions affect owners
• Business law: what makes agreements enforceable and who bears liability

Once the framework is stable, details become easier to place and retrieve during questions.

Practice With Realistic Fact Patterns

REG is heavily application-driven. Work through questions that include multiple facts, not just single-rule prompts. After each set, review wrong answers by identifying the exact decision point where your reasoning diverged from the rule.

A practical technique is to write a one-sentence diagnosis for every missed question, such as “I misclassified the deduction as for AGI instead of from AGI” or “I ignored apparent authority.”

Emphasize Basis and Characterization

If you want a high-return focus area, prioritize basis and characterization because they recur across individual taxation, partnerships, S corporations, and property transactions. Many candidates know the rule in isolation but miss questions when a liability, distribution, or change in ownership is layered in.

Final Takeaway

CPA Exam: Regulation is a test of applied compliance and legal reasoning. Mastering federal taxation requires comfort with classifications, timing, and basis. Mastering business law requires careful reading and clear logic about rights and obligations. Mastering ethics requires recognizing the professional line even when facts are inconvenient.

Approach REG as a set of connected systems, practice with realistic scenarios, and make basis and characterization second nature. That combination is what turns studying into exam-day performance.