C:11-2 Julio, age 50, is a U.S. citizen who has a 28% marginal tax rate. He has operated the A&B Automotive Parts Company for a number of years as a C corporation. Last year, A&B reported $200,000 of pre-tax profits, from which it paid $50,000 in salary and $25,000 in dividends to Julio. The corporation expects this year’s pre-tax profits to be $300,000. To date, the corporation has created no fringe benefits or pension plans for Julio. Julio asks you to explain whether an S corporation election would reduce his taxes.
How do you respond to Julio’s inquiry?
C:11-2 Julio, age 50, is a U.S. citizen who has a 28% marginal tax rate. He has operated the A&B Automotive Parts Company for a number of years as a C corporation. Last year, A&B reported $200,000 of pre-tax profits, from which it paid $50,000 in salary and $25,000 in dividends to Julio. The corporation expects this year’s pre-tax profits to be $300,000. To date, the corporation has created no fringe benefits or pension plans for Julio. Julio asks you to explain whether an S corporation election would reduce his taxes.
How do you respond to Julio’s inquiry?
C:11-4 Lance and Rodney are contemplating starting a new business to manufacture computer software games. They expect to encounter losses in the initial years. Lance’s CPA has talked to them about using an S corporation. Rodney, while reading a business publication, encounters a discussion on limited liability companies (LLCs). The article talks about the advantages of using an LLC instead of an S corporation. How would you respond to their inquiry?
C:11-29 Comparison of Entity Forms. Carl Carson, a single taxpayer, owns 100% of Delta Corporation. During 2010, Delta reports $150,000 of taxable income. Carl reports no income other than that earned from Delta, and Carl claims the standard deduction.
a. What is Delta’s income tax liability assuming Carl withdraws none of the earnings from the C Corporation? What is Carl’s income tax liability? What is the total tax liability for the corporation and its shareholder?
b. Assume that Delta instead distributes $80,000 of its after-tax earnings to Carl as a dividend in the current year. What is the total income tax liability for the C Corporation and its shareholder?
c. How would your answer to Part a change if Carl withdrew $80,000 from the business in salary? Assume the corporation pays $6,000 of Social Security taxes on the salary, which it can deduct from the $150,000 taxable income amount in Part a. Carl also pays $6,000 of Social Security taxes on the salary, which he cannot deduct.
d. How would your answers to Parts a–c change if Delta were instead an S corporation?
C:11-37 Determination of Pass-Throughs and Stock Basis Adjustments. Mike and Nancy are equal shareholders in MN Corporation, an S corporation. The corporation, Mike, and Nancy are calendar year taxpayers. The corporation has been an S corporation during its entire existence and thus has no accumulated E&P. The shareholders have no loans to the corporation. The corporation incurred the following items in the current year:
Sales $300,000
Cost of goods sold 140,000
Dividends on corporate investments 10,000
Tax-exempt interest income 3,000
Section 1245 gain (recapture) on equipment sale 22,000
Section 1231 gain on equipment sale 12,000
Long-term capital gain on stock sale 8,000
Long-term capital loss on stock sale 7,000
Short-term capital loss on stock sale 6,000
Depreciation 18,000
Salary to Nancy 20,000
Meals and entertainment expenses 7,800
Interest expense on loans allocable to:
Business debt 32,000
Stock investments 6,400
Tax-exempt bonds 1,800
Principal payment on business loan 9,000
Charitable contributions 2,000
Distributions to shareholders ($15,000 each) 30,000
a. Compute the S corporation’s ordinary income and separately stated items.
b. Show Mike’s and Nancy’s shares of the items in Part a.
c. Compute Mike’s and Nancy’s ending stock bases assuming their beginning balances are $100,000 each. When making basis adjustments, apply the adjustments in the order outlined on pages C:11-24 and C:11-25 of the text.
Prentice Hall's Federal Taxation 2011: Corporations, Partnerships, Estates & Trusts, by Kenneth E. R. Pope, and John L. Kramer.
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