Tax 4022/5022 Federal Income Tax II Dr. Robert R. Oliva Professor and Chairperson Department of...
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Transcript of Tax 4022/5022 Federal Income Tax II Dr. Robert R. Oliva Professor and Chairperson Department of...
Tax 4022/5022 Tax 4022/5022 Federal Income Tax IIFederal Income Tax II
Dr. Robert R. OlivaProfessor and ChairpersonDepartment of Accounting
University of Arkansas at Little Rock
Corporate Income Taxation Corporate Income Taxation
Miscellaneous TopicsMiscellaneous Topics
Copyright, 1996 © Dale Carnegie & Associates, Inc.
TIP For additional advice seeDale Carnegie Training® Presentation Guidelines
I. The Corporation as an Entity: Types
II. Corporate Taxation
III. Corporations v. Other Entities
I. The Corporation as an I. The Corporation as an Entity: TypesEntity: Types
“C” corporations: Regular corporations “S” corporations Why “C” v. “S”?
Organization of USC Title 26Organization of USC Title 26
Subtitle– Chapter
Subchapter– Part
• Subpart
Subtitle A (divided into Subtitle A (divided into CHAPTERS)CHAPTERS)
1: NORMAL TAXES 2: SELF EMPLOYMENT TAXES 6: CONSOLIDATED RETURNS
Chapter 1 (divided into Chapter 1 (divided into Subchapters)Subchapters)
– A: TAX LIABILITY– B: COMPUTATION OF TAXABLE INCOME– C: CORPORATE DISTRIBUTIONS AND
ADJUSTMENTS– K: PARTNERS AND PARTNERSHIPS– S: TAX TREATMENT OF S
CORPORATIONS AND THEIR SHAREHOLDERS
Defining the “C” corporationDefining the “C” corporation
State law Federal law
– Check the Box Regulations
IRC 7701(a)(1)-(3)IRC 7701(a)(1)-(3)
IRC: corporations includes associations What does that mean?
– Treas. Regs– Cases
Treas. Reg. 301-7701-4Treas. Reg. 301-7701-4
Applicable to resolve issues of whether the business entity should be taxed as one of the following:– Sole proprietorship– Partnership– Corporation
Types of corporate entitiesTypes of corporate entities
“Per se” corporations Not ‘per se” corporations = associations
““Per se” corporationsPer se” corporations
De jure Specifically included foreign corporations
– Generally not closely held, publicly traded
Not “per se” corporations = Not “per se” corporations = associations associations
AKA: eligible entities – Domestic– Unincorporated
Partnerships LLC
– Nonpublicly traded May choose classification Failure to choose: default rules
Choosing classificationChoosing classification
Membership > 2: corporation or partnership Membership = 1: corporation or sole
proprietorship
Default rules:Default rules:
Incorporation on or after 1/1/97:– Membership > 2: partnership– Membership = 1: sole proprietor
Incorporation before 1/1/97:– Membership > 2 : use old regulations– Membership = 1: sole proprietorship
Corporate rates: IRC 11Corporate rates: IRC 11
15%; 25%, 34%, and 35%– 15%: >$0 to $50K– 25%: >$50K to $75K– 34%: >$75K to $10MM– 35%: >$10MM
But also: two surtaxes to eliminate savings from lower brackets:– Add 5%when TI >$100k up to $11,750
Creates a rate “bubble”: 39% MTR between $100K-$335K
– Add 3% when TI> $15MM up to $100K Creates a rate “bubble” of 35% when TI >$18.3MM:
Organization of USC Title 26Organization of USC Title 26
Subtitle– Chapter
Subchapter– Part
• Subpart
Chapter 1 (divided into Chapter 1 (divided into Subchapters)Subchapters)
– Subchapter A: TAX LIABILITY– Subchapter B: COMPUTATION OF TAXABLE
INCOME– Subchapter C: CORPORATE DISTRIBUTIONS
AND ADJUSTMENTS– Subchapter K: PARTNERS AND PARTNERSHIPS– Subchapter S: TAX TREATMENT OF S
CORPORATIONS AND THEIR SHAREHOLDERS
SUBCHAPTER C divided into SUBCHAPTER C divided into Parts Parts
PART I: DISTRIBUTIONS BY CORPORATIONS
PART II: CORPORATE LIQUIDATIONS PART III. CORPORATE
ORGANIZATION AND REORGANIZATIONS
PART I: DISTRIBUTIONS BY PART I: DISTRIBUTIONS BY CORPORATIONSCORPORATIONS
SUBPART A: EFFECT ON RECIPIENTS: IRC 301-307
SUBPART B: EFFECT ON CORPORATION: IRC 311 AND 312
PART II: CORPORATE PART II: CORPORATE LIQUIDATIONSLIQUIDATIONS
SUBPART A: EFFECT ON RECIPIENTS: IRC 331-334
SUBPART B: EFFECT ON CORPORATION: IRC 336-338
PART III. CORPORATE PART III. CORPORATE ORGANIZATION AND ORGANIZATION AND REORGANIZATIONSREORGANIZATIONS
SUBPART A: CORPORATE ORGANIZATION: IRC 351
SUBPART B: EFFECT ON SHAREHOLDERS: IRC 354-358
SUBPART C: EFFECT ON CORPORATION; IRC 361-362
Corporate Tax FormulaCorporate Tax FormulaCorporate Tax FormulaCorporate Tax FormulaGross incomeLess: Deductions (except charitable, Div. Rec’d, NOL carryback,
STCL carryback) Taxable income for charitable limitationLess: Charitable contributions (< = 10% of above)Taxable income for div. rec’d deductionLess: Dividends received deductionTaxable income before carrybacksLess: NOL carryback and STCL carrybackTAXABLE INCOME
SUBCHAPTER B: SUBCHAPTER B: COMPUTING TAXABLE COMPUTING TAXABLE
INCOMEINCOME IRC 63(a):
– TAXABLE INCOME = GROSS INCOME LESS DEDUCTIONS
GROSS INCOME: IRC 61– SPECIFIC INCLUSIONS: IRC 71-86– SPECIFIC EXCLUSIONS: IRC 101-135
DEDUCTIONS: IRC 161-197
CORPORATE DEDUCTIONSCORPORATE DEDUCTIONS
IRC 162: ORDINARY AND NECESSARY DIFFERENCES SPECIAL CORPORATE DEDUCTIONS
DIFFERENCES FROM DIFFERENCES FROM INDIVIDUALSINDIVIDUALS
– NO FLOOR ON MISCELLANEOUS DEDUCTIONS [IRC 167: 2% OF AGI]
– NO STANDARD DEDUCTIONS
– NO DEPENDENT
– NO HOBBY LOSS LIMITATIONS
– NO INVESTMENT INTEREST LIMITATIONS
– NO CASUALTY LOSSES LIMITATIONS
– CHARITABLE. CAPITAL GAINS/LOSSES, AND NOL DEDUCTIONS COMPUTED DIFFERENTLY
Capital gains/losses:Capital gains/losses:
Corp: Capital gains taxed as all other income
Corp: Capital losses cannot be reduce other income but it can reduce capital gains.
Net Capital Losses: Carry Back/Forward (and treat as ST cap. loss) – Method: Carry back to third previous year; 2d
previous; last year; and then for the next 5 years.
NOLsNOLs
Carry Back/Forward May elect to carry-back 2 years, otherwise
carry forward 20 years. – DRD included in NOL computation
SPECIAL CORPORATE SPECIAL CORPORATE DEDUCTIONSDEDUCTIONS
IRC 243: DRD IRC 246 IRC 248 IRC 267 IRC 291
IRC 243: DRDIRC 243: DRDIRC 243: DRDIRC 243: DRD
70% DRD IF % OWNERSHIP < 20% 80% DRD IF % OWNERSHIP = 20% TO
<80% 100% DRD IF % OWNERSHIP 80% OR
MORE
IRC 246: DRD LIMITATIONS; IRC 246: DRD LIMITATIONS; OWNING < 20%: OWNING < 20%:
DRD LIMITED TO THE LESSER OF– 70% DIV RECEIVED, OR– 70% OF TI BEFORE THE DRD, NOL,
AND/OR CAP. LOSS CARRYBACK BUT NO LIMIT WHEN DRD
GENERATES OR ADDS TO AN NOL
IF GROSS INCOME = $400IF GROSS INCOME = $400
TIBDRD: 400 + 200 - 300 = $300 70% OF TIBDRD = .7($300) = $210 70% OF DIV = .7($200) = $140 *
LESSER OF 70% OF TIBDRD OR 70% OF DRD = $140
IF GROSS INCOME = $280IF GROSS INCOME = $280
TIBDRD: 280 + 200 - 300 = $180 70% OF TIBDRD = .7($180) = $126* 70% OF DIV = .7($200) = $140 LESSER OF 70% OF TIBDRD OR 70%
OF DRD = $126
IF GROSS INCOME = $ 220IF GROSS INCOME = $ 220
TIBDRD: 220 + 200 - 300 = $120 70% OF TIBDRD = .7($120) = $84 70% OF DIV = .7($200) = $140* LESSER OF 70% OF TIBDRD OR 70%
OF DRD = $140? $140 BECAUSE IT WILL GENERATE
AN NOL: $120-$140 = ($20)
Other DRD ExamplesOther DRD ExamplesOther DRD ExamplesOther DRD Examples
Z Corp owns 60% of X Corp’s stock in years 1, 2 & 3. Dividend of $200 is received each year. Limit (Step 2) is 80% x $200 = $160.
1 2 3_
Income 400 301 299
Dividend rec’d 200 200 200
Expenses (340) (340) (340)
Income before DRD 260 161 159
80% of income 208 129 127
Year #1 $208 > $160, so $160 is DRD
Year #2 $129 < $160, so $129 DRD
Year #3 DRD causes NOL ($159-$160), so $160 DRD is used. $2 less income results in $30 more DRD
IRC 248: ORGANIZATIONAL IRC 248: ORGANIZATIONAL EXPENDITURESEXPENDITURES
ELECTION– IF NOT MADE WITH FIRST RETURN,
THEN DEDUCT IN LIQUIDATION OVER NOT LESS THAN 60 MONTHS
– STARTING WITH THE FIRST MONTH OF OPERATIONS
EXPENSESEXPENSES
(1) 6/10: $2K, CHARTER EXPENSES (2) 7/17: $40K, COMMISSIONS (3) 7/18: $2K, CPA FEES (4) 7/20: $1K, TEMP DIRECTORS (5) 8/25: $2K, REGULAR DIRECTORS (6) 12/31: $1K, MODIFY CHARTER
NOT INCLUDED:NOT INCLUDED:
(2): PAID-IN CAPITAL: EXPENSES FOR SELLING SECURITIES AND TRANSFER OF ASSETS
(5): ORDINARY AND NECESSARY DEDUCTION
(6): INCURRED DURING SECOND YEAR
INCLUDED:INCLUDED:
(1); (3); AND (4) = $5,000 $5000 OVER 60 MONTHS =
$83.33/MONTH ONLY TWO MONTHS IN FIRST YEAR:
2 ($83.33) = $$166.66
IRC 267: LOSSES, IRC 267: LOSSES, EXPENSES, AND INTEREST EXPENSES, AND INTEREST
BETWEEN RELATED BETWEEN RELATED TAXPAYERSTAXPAYERS RELATED?
EFFECT
CONSTRUCTIVE CONSTRUCTIVE OWNERSHIP: IRC 267(c)OWNERSHIP: IRC 267(c)
– A.F.E. %: ATTRIBUTION FROM ENTITY = PROPORTIONATELY
STOCK OWNED BY A CORP, PART, EST, OR TRUST OWNED PROPORTIONATELY BY SHAREHOLDERS, PARTNERS, OR BENEFICIARIES.
– INDIVIDUAL CONSIDERED OWNING STOCK OF BROTHERS/SISTERS, SPOUSE, ANCESTORS, AND LINEAL DESCENDANTS, AS WELL AS HIS PARTNER.
REATTRIBUTION REATTRIBUTION
STOCK OWNED DUE TO A.F.E., CONSIDERED AS OWNED BY SHAREHOLDER, PARTNER, OR BENEFICIARY, TO REATTRIBUTE TO OTHERS.
STOCK OWNED DUE TO PARTNERSHIP OR FAMILY RELATIONSHIP CANNOT BE RE-ATTRIBUTED TO OTHERS.
IRC 267(d): SUBSEQUENT IRC 267(d): SUBSEQUENT RESALE TO A THIRD PARTYRESALE TO A THIRD PARTY REDUCE SUBSEQUENT GAIN FROM
RESALE BY PREVIOUSLY DISALLOWED LOSS
IRC 1239: GAINS BETWEEN IRC 1239: GAINS BETWEEN RELATED TAXPAYERSRELATED TAXPAYERS
COVERT CAPITAL GAINS INTO ORDINARY INCOME
USES IRC 267 CONSTRUCTIVE OWNERSHIP RULES
III. Other business entitiesIII. Other business entities
Sole propietorships Pass-Through Entities
– Partnerships– S corporations– LLCs
Sole propietorshipSole propietorship
One owner No separate existence
– No independent tax significance or consequence Income and expenses retain their character
– Owner contributes and withdraws property without tax effect
Reported: Form 1040; Sch. C Business MTR = individual’s MTR
DisadvantagesDisadvantages
Net profit taxed to owner when reported whether received or not– Taxed on re-invested profits
Owner is not an employee– Self-employment tax
Same tax year No liability shield
Partnership definition: UPA Partnership definition: UPA (local law):(local law):
“… an association of two or more persons...”
“… to carry on as co-owners ….” It is not sufficient:– to have a mere co-ownership, particularly a
passive activity investments– sharing profits: needs co-ownership
“… a business for profit”
Partnership definition: Federal Partnership definition: Federal tax law: IRC 761(a)tax law: IRC 761(a)
“.. Includes a syndicate, group, pool, joint venture or other unincorporated organization …”
“… through of by ... Which any business, financial operation, or venture is carried on ….”
“… and which is not … a corporation, or a trust or estate….”
Partnerships: Subchapter KPartnerships: Subchapter K
2 or more persons Independent entity from owner
– Income & Expenses to partners in K-1’s: Non-separately Stated and Separately Stated
– Partner liable for share for allocable share, irrespective of distribution
Conduit/flow through: does not pay taxes– Exceptions: BIG and PAI– Must file an Information Return: Form 1065
Advantages of a PartnershipAdvantages of a Partnership
Entity is tax exempt– Entity’s MTR = partner’s MTR; good if
partner’s MTR < corp’s MTR Partners able to withdraw and contribute
affecting only adjusted basis Partners’ basis increases by allocable share
– Reduces gain on sale Debt basis
DisadvantagesDisadvantages
Net profit taxed to owner when reported whether received or not– Taxed on re-invested profits
Owner is not an employee– Self-employment tax
Effect of “Check the Box” Effect of “Check the Box” regulationsregulations
Business entities with > 1 member may elect to be taxed as partnership or corporation.
But if there is a failure to elect, classification is pursuant to the default rules. – If >1 member: partnership
Types of partnershipTypes of partnership
– General – Limited– Family partnerships– Publicly traded partnership
taxed as corporations unless > 90% of gross from qualifying passive income
traded in public markets
– Electing large partnerships partners > 100 Not in service business; not commodity trading
Family PartnershipsFamily Partnerships
Real or sham?– Two kinds of partnerships based on what is the
material income producing factor capital services
In service partnership, a partner family member must provide substantial services
In capital intensive partnerships: no as much of a problem
LLCs: Limited Liability LLCs: Limited Liability CompaniesCompanies
State created entity Taxation (as a partnership)
– Elect to be taxed as a partnership under “check the box”
Unlike partnerships (and similar to corporations): members have limited liability
Unlike limited partners: LLC members may participate in management
Advantages of LLC’s (versus Advantages of LLC’s (versus S)S)
not limited to a specific number of members– <2005: 75– > 2005: 100
not limited to one class of stock not limited to kinds of shareholders Non-shareholder debt basis
Additional advantages of Additional advantages of LLC’s (versus S)LLC’s (versus S)
LLC able to make disproportionate allocations and distributions [IRC 704]
LLC able to distribute appreciated property to members without recognition of gain [IRC 731(b)]
Has similar provision as IRC 351, without the need of control and can be used at anytime without concern for control [IRC 721].
Advantages of LLC’s (v. LP’s) Advantages of LLC’s (v. LP’s)
No need for GP with personal liability All members have limited liability All members may participate in
management
Advantages of LLC’s (v. GP’s)Advantages of LLC’s (v. GP’s)
LLC members do not have personal liability
Advantages of LLC’s (v. Sub Advantages of LLC’s (v. Sub C’s)C’s)
LLC’s may be taxed as pass through entities by electing under “check the box” to be taxed as a partnership
Has similar provision as IRC 351, without the need of control and can be used at anytime without concern for control [IRC 721].
Conversion to LLCConversion to LLC
From partnership: no tax consequences From corporation: requires liquidation and
tax event
Other similar entities: Other similar entities:
Limited Liability Partnership Publicly traded partnerships
Limited Liability PartnershipLimited Liability Partnership
Like GP: severally and jointly liable for LLP’s liabilities arising out of other than malpractice.
From partnership to LLC: no tax consequences
Publicly traded partnershipsPublicly traded partnerships
PTP avoided double tax because not taxable at entity level
PTP’s classified/taxed as associations– Exception: When > 90% of gross derived from
passive-type income