Module 16

AMT and Other Special AMT and Other Special Corporate TaxesCorporate Taxes

Module Topics

Corporate alternative minimum taxCorporate alternative minimum tax

Personal holding company taxPersonal holding company tax

Accumulated earnings taxAccumulated earnings tax

The Corporate Alternative Minimum Tax

Key Learning ObjectivesKey Learning Objectives

Understand the parallel income tax system Understand the parallel income tax system of corporate taxationof corporate taxation

Know how to minimize the alternative Know how to minimize the alternative minimum tax liabilityminimum tax liability

AMT Background

Policy reasonPolicy reason History of individual and corporate History of individual and corporate

provisionsprovisions Compliance burdenCompliance burden

AMT Concepts

Parallel tax systemParallel tax system AMT is a separate tax systemAMT is a separate tax system Differences will exist between regular taxable Differences will exist between regular taxable

income and AMTIincome and AMTI Prepayment systemPrepayment system

AMT accelerates income and defers deductionsAMT accelerates income and defers deductions Minimum tax credit available for future yearsMinimum tax credit available for future years

Corporate AMT Formula

Taxable incomeTaxable income

Plus NOL deductionPlus NOL deduction

Plus tax preferencesPlus tax preferences

Plus/minus adjustmentsPlus/minus adjustments

Tentative AMTITentative AMTI

Plus/minus 75% ACE adjustmentPlus/minus 75% ACE adjustment

Minus ATMNOL (90% limit)Minus ATMNOL (90% limit)

AMTIAMTI

Minus exemptionMinus exemption

AMT baseAMT base

(continued)(continued)

Corporate AMT Formula

ATM BaseATM Base

x 20%x 20%

Tentative minimum tax before FTCTentative minimum tax before FTC

Minus AMT FTC (90% limit)Minus AMT FTC (90% limit)

Tentative minimum taxTentative minimum tax

Minus regular tax (after FTC)Minus regular tax (after FTC)

AMT (if positive)AMT (if positive)

AMT Relief for Small Business C Corporations The Taxpayer Relief Act of 1997 Beginning in 1998

Small business C corporations do NOT need to compute the AMT

AMT Relief for Small Business C Corporations Requirements for exemption Average gross receipts of

less than $5,000,000 for the prior three years.

If a new entity not a continuation of a prior business automatically exempt for its initial year

Common Tax Preferences

Tax-exempt interest on private activity Tax-exempt interest on private activity bondsbonds

Excess accelerated depreciation on pre-87 Excess accelerated depreciation on pre-87 realtyrealty

Excess percentage depletionExcess percentage depletion Excess intangible drilling costsExcess intangible drilling costs

Common ± Adjustments

Post-86 realtyPost-86 realty 40-year straight line40-year straight line

Post-86 personalityPost-86 personality 150% on regular recovery period150% on regular recovery period

Property transaction gains and lossesProperty transaction gains and losses Long-term contractsLong-term contracts

Compliance Query: AMT Depreciation Adjustments

ABC Corporation purchased $30,000 of office ABC Corporation purchased $30,000 of office furniture in June.furniture in June.

It elected to expense $20,000 under §179.It elected to expense $20,000 under §179. The furniture is 7-year propertyThe furniture is 7-year property

200% declining balance for MACRS200% declining balance for MACRS 150% declining balance for ADS 150% declining balance for ADS

prior to 1998, ADS was generally also a longer prior to 1998, ADS was generally also a longer recovery periodrecovery period

What is the AMT depreciation adjustment?What is the AMT depreciation adjustment?

Solution--Compliance Query: AMT Depreciation Adjustments

CostCost 30,00030,000

Sec. 179 expenseSec. 179 expense 20,000*20,000*

Depreciable basisDepreciable basis 10,00010,000

*allowed for both regular tax and AMT*allowed for both regular tax and AMT

MACRS: 10,000 x .1429 = 1,429MACRS: 10,000 x .1429 = 1,429

ADS: 10,000 x .1071 = ADS: 10,000 x .1071 = 1,0711,071

AMT adjustment (+) AMT adjustment (+) 358358

75% ACE Adjustment

ACE is another parallel tax systemACE is another parallel tax system Adjustment can be positive or negativeAdjustment can be positive or negative

Limit on negative adjustmentLimit on negative adjustment ACE is a hybrid between AMTI and E&PACE is a hybrid between AMTI and E&P Complex calculation rules applyComplex calculation rules apply

Depreciation adjustmentsDepreciation adjustments E&P adjustmentsE&P adjustments Exclusion adjustmentsExclusion adjustments

Compliance Query: Calculating the ACE Adjustment

Tentative AMTI = 300,000Tentative AMTI = 300,000

(1) ACE = 360,000(1) ACE = 360,000

(2) ACE = 260,000(2) ACE = 260,000 Prior years’ net positive adjustment: 22,000Prior years’ net positive adjustment: 22,000

What is the ACE adjustment for (1) and (2)?What is the ACE adjustment for (1) and (2)?

Solution--Compliance Query: Calculating the ACE Adjustment

(1)(1) ACEACE 360,000360,000

AMTIAMTI 300,000300,000

DifferenceDifference 60,000 60,000

x 75%x 75%

Positive ACE adjustment 45,000Positive ACE adjustment 45,000

Solution--Compliance Query: Calculating the ACE Adjustment

(2)(2) ACEACE 260,000 260,000

AMTIAMTI 300,000300,000

DifferenceDifference <40,000> <40,000>

x 75%x 75%

Computed ACE adjustment <30,000>Computed ACE adjustment <30,000>

Limited to Limited to <22,000><22,000>

AMT Exemption

$40,000$40,000 Reduced by .25 x (AMTI - $150,000)Reduced by .25 x (AMTI - $150,000)

Compliance Query: Calculating the AMT Exemption

XYZ Corporation has AMTI of $270,000XYZ Corporation has AMTI of $270,000

What is the statutory exemption and AMT What is the statutory exemption and AMT base?base?

Solution--Compliance Query: Calculating the AMT ExemptionExemption:Exemption:

40,000 - .25(270,000-150,000) = 10,00040,000 - .25(270,000-150,000) = 10,000

AMTI 270,000AMTI 270,000

Exemption Exemption 10,000 10,000

AMT Base 260,000AMT Base 260,000

Personal Holding Company Tax

Key Learning ObjectivesKey Learning Objectives

Recognize the conditions in which the Recognize the conditions in which the personal holding company tax appliespersonal holding company tax applies

Know the components of the tax computationKnow the components of the tax computation Explore opportunities for avoiding the taxExplore opportunities for avoiding the tax

PHC Tax--Overview

Penalty tax on “incorporated pocketbooks”Penalty tax on “incorporated pocketbooks” 39.6% rate applied to undistributed PHCI39.6% rate applied to undistributed PHCI Tax can be avoided by making sufficient Tax can be avoided by making sufficient

dividend distributionsdividend distributions

PHC Definition

C Corps are PHCs if they meet:C Corps are PHCs if they meet:

• Stock ownership test, Stock ownership test, andand

• Passive income testPassive income test

Stock Ownership Test

5 or fewer individual shareholders...5 or fewer individual shareholders... Own > 50% in value of the stock…Own > 50% in value of the stock…

Sec. 544 stock attribution rules applySec. 544 stock attribution rules apply At any time during last half of yearAt any time during last half of year

Passive Income Test

PHCI ÷ AOGI PHCI ÷ AOGI 6060 Common PHCI items:Common PHCI items:

Dividends; interest; annuities; rents; royalties; Dividends; interest; annuities; rents; royalties; certain personal service contractscertain personal service contracts

AOGI typically consists of:AOGI typically consists of: Ordinary gross incomeOrdinary gross income Less certain rent and royalty related expensesLess certain rent and royalty related expenses

Compliance Query:

Z Corporation has 5 shareholders and the Z Corporation has 5 shareholders and the following income for the year:following income for the year: Gross merchandising incomeGross merchandising income 80,00080,000 Capital gainsCapital gains 40,00040,000 Interest incomeInterest income 45,00045,000 Dividend incomeDividend income 35,00035,000 Adjusted income from rentsAdjusted income from rents 30,00030,000

Is Z corporation a PHC?Is Z corporation a PHC?

Solution--Compliance Query:

PHCI = 110,000 (45,000 + 35,000 + 30,000)PHCI = 110,000 (45,000 + 35,000 + 30,000)

AOGI = 190,000 (80,000 + 110,000) AOGI = 190,000 (80,000 + 110,000)

PHCI PHCI AOGI = .579AOGI = .579

Z Corporation is Z Corporation is notnot a PHC a PHC

Exclusions From PHCI for Adjusted Income From Rents

Rent is excluded from PHCI if:Rent is excluded from PHCI if: AIR AIR 50% of AOGI50% of AOGI

andand Dividends paid Dividends paid (non-rental PHCI - 10% of (non-rental PHCI - 10% of

OGI)OGI)

Computing the Personal Holding Company Tax

Taxable incomeTaxable income

Plus positive adjustmentsPlus positive adjustments

Minus negative adjustmentsMinus negative adjustments

Adjusted taxable incomeAdjusted taxable income

Minus dividends paid deductionMinus dividends paid deduction

Undistributed PHCIUndistributed PHCI

x .396x .396

PHC taxPHC tax

Common Adjustments

PositivePositive Dividend received deductionDividend received deduction NOL deduction from other than preceding yearNOL deduction from other than preceding year Charitable deduction carryoverCharitable deduction carryover

NegativeNegative Federal income taxesFederal income taxes Charitable contributions > 10% limitCharitable contributions > 10% limit Net capital gain (net of tax)Net capital gain (net of tax)

The Dividends Paid Deduction

Current-year dividendsCurrent-year dividends Grace period dividendsGrace period dividends

2.5 month and 20% rules2.5 month and 20% rules Consent dividendsConsent dividends Liquidating dividendsLiquidating dividends Dividend carryoversDividend carryovers Deficiency dividendsDeficiency dividends

Avoiding the PHC Tax

Pay dividends!Pay dividends! Monitor rent so that it does not fall below Monitor rent so that it does not fall below

50% of AOGI50% of AOGI Do not lag when liquidating a corporationDo not lag when liquidating a corporation Monitor passive income sourcesMonitor passive income sources Disperse stock ownershipDisperse stock ownership

Accumulated Earnings Tax

Key Learning ObjectivesKey Learning Objectives

Recognize the conditions in which the Recognize the conditions in which the accumulated earnings tax appliesaccumulated earnings tax applies

Know the components of the tax computationKnow the components of the tax computation Explore opportunities for avoiding the taxExplore opportunities for avoiding the tax

Accumulated Earnings Tax Overview

Penalty tax on unreasonably accumulated Penalty tax on unreasonably accumulated incomeincome

39.6% rate applied to accumulated taxable 39.6% rate applied to accumulated taxable incomeincome

Tax can be avoided by making Tax can be avoided by making sufficient dividend distributionssufficient dividend distributions

Motivations to Accumulate Earnings

Low marginal tax rates (15%; 25%) on first Low marginal tax rates (15%; 25%) on first $75,000 of income$75,000 of income

Retained funds invested in corporate stock Retained funds invested in corporate stock eligible for 70% or 80% dividend received eligible for 70% or 80% dividend received deductiondeduction

Shareholders can hold, then sale their shares Shareholders can hold, then sale their shares and get capital gain treatmentand get capital gain treatment

Establishing a Tax Avoidance Purpose

Tax applies if tax avoidance is Tax applies if tax avoidance is oneone of the of the purposes of accumulating incomepurposes of accumulating income

It need not be the dominant or controlling It need not be the dominant or controlling purposepurpose

“Preponderance of Evidence” and Reasonable Business Needs

If a corporation has accumulated its If a corporation has accumulated its earnings beyond the reasonable needs of the earnings beyond the reasonable needs of the business...business...

It must prove by the preponderance of the It must prove by the preponderance of the evidence that the accumulation was not to evidence that the accumulation was not to avoid taxavoid tax

Reasonable Business Needs“Good” Reasons

To provide for bona fide expansion of business or replacement of plantTo provide for bona fide expansion of business or replacement of plant

To acquire a business enterprise through purchasing stock or assetsTo acquire a business enterprise through purchasing stock or assets

To provide for the retirement of bona fide indebtedness created in connection with the trade or businessTo provide for the retirement of bona fide indebtedness created in connection with the trade or business

Reasonable Business NeedsMore “Good” Reasons

To provide necessary working capital for the businessTo provide necessary working capital for the business

Bardahl formulaBardahl formula

To provide for investments or loans to suppliers or customers if necessaryTo provide for investments or loans to suppliers or customers if necessary

To provide for the payment of reasonably anticipated product liability lossesTo provide for the payment of reasonably anticipated product liability losses

Key Factors

Plans to use accumulated earnings must bePlans to use accumulated earnings must be SpecificSpecific DefiniteDefinite FeasibleFeasible

Research Query

Does the tax law specify any “bad” reasons Does the tax law specify any “bad” reasons for accumulating earnings?for accumulating earnings?

“Bad” Reasons to AccumulateReg. § 1.537-2(c)

Loans to shareholders, relatives, or friendsLoans to shareholders, relatives, or friends Corporate funds used for personal benefitCorporate funds used for personal benefit Investments in properties or securities Investments in properties or securities

unrelated to corporation’s business unrelated to corporation’s business activitiesactivities

Protection against unrealistic hazardsProtection against unrealistic hazards

Determining the Accumulated Earnings Tax

Taxable incomeTaxable income

Plus positive adjustmentsPlus positive adjustments

Minus negative adjustmentsMinus negative adjustments

Adjusted taxable incomeAdjusted taxable income

Minus dividends paid deductionMinus dividends paid deduction

Minus accumulated earnings creditMinus accumulated earnings credit

Accumulated taxable incomeAccumulated taxable income

x .396x .396

Accumulated earnings taxAccumulated earnings tax

Common Adjustments

Positive adjustmentsPositive adjustments Capital loss carryovers and carrybacksCapital loss carryovers and carrybacks Dividends received deductionDividends received deduction Net operating loss deductionNet operating loss deduction Charitable deduction carryoversCharitable deduction carryovers

Negative adjustmentsNegative adjustments Federal income taxesFederal income taxes Charitable contributions > 10% limitCharitable contributions > 10% limit Net capital gains (net of tax)Net capital gains (net of tax)

The Dividends Paid Deduction

Current-year dividendsCurrent-year dividends Grace period dividendsGrace period dividends

No 20% ruleNo 20% rule Consent dividendsConsent dividends Liquidating dividendsLiquidating dividends

The Accumulated EarningsTax Credit

Safe harbor minimumSafe harbor minimum $250,000 (less accumulated earnings at end of $250,000 (less accumulated earnings at end of

last year)last year) Use $150,000 for certain service companiesUse $150,000 for certain service companies

Maximum creditMaximum credit Earnings needed to meet reasonable business Earnings needed to meet reasonable business

needs (less accumulated earnings at end of last needs (less accumulated earnings at end of last year)year)