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16-1 ©2011 Pearson Education, Inc. Publishing as Prentice Hall.

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Presentation on theme: "16-1 ©2011 Pearson Education, Inc. Publishing as Prentice Hall."— Presentation transcript:

1 16-1 ©2011 Pearson Education, Inc. Publishing as Prentice Hall

2 16-2 CORPORATIONS (1 of 3)  Definition of a corporation  Similarities and differences between corporations and individuals  Specific rules applicable to corporations  Computation of tax ©2011 Pearson Education, Inc. Publishing as Prentice Hall

3 16-3 CORPORATIONS (2 of 3)  Transfers of property to controlled corporations  Corporate Capital Structure  Earnings and profits  Nonmoney distributions  Stock redemptions ©2011 Pearson Education, Inc. Publishing as Prentice Hall

4 16-4 CORPORATIONS (3 of 3)  Corporate distributions in complete liquidation  Tax planning considerations  Compliance and procedural considerations ©2011 Pearson Education, Inc. Publishing as Prentice Hall

5 16-5 Definition of a Corporation Organization Forms Available  Sole proprietorships  Partnerships  Corporations  C Corporations  S Corporations  Limited liability companies (LLCs)  Limited liability partnerships (LLPs) ©2011 Pearson Education, Inc. Publishing as Prentice Hall

6 16-6 Definition of a Corporation Flow-Through Entities  Earnings not taxed at entity level  Flow-through directly to owners  Sole proprietorships  Partnerships  S Corporations  LLCs  LLPs ©2011 Pearson Education, Inc. Publishing as Prentice Hall

7 16-7 Number of Tax Returns Filed (in millions) ©2011 Pearson Education, Inc. Publishing as Prentice Hall

8 16-8 Definition of a Corporation C Corporation (1 of 2)  C corps only entity that pays tax at entity level  Earnings distributed to owners taxed again at owner level  Business entity w/ ≥ 2 owners classified as either a corporation or a partnership  Business entity w/ 1 owner classified as a corporation or a sole proprietorship ©2011 Pearson Education, Inc. Publishing as Prentice Hall

9 16-9 Definition of a Corporation C Corporation (2 of 2)  A business entity is a corporation if organized under federal or state statute that refers to the entity as incorporated or as a corporation  If a business entity incorporates, it is a corporation  LLCs and LLPs can elect to be taxed as a corporation or partnership ©2011 Pearson Education, Inc. Publishing as Prentice Hall

10 16-10 Similarities & Differences between Corps & Individuals (1 of 3)  Similarities  Similar computation of taxable income as for sole proprietorship  Allowed to deduct ordinary and necessary business expenses  Can deduct interest and depreciation ©2011 Pearson Education, Inc. Publishing as Prentice Hall

11 16-11 Similarities & Differences between Corps & Individuals (2 of 3)  Differences  AGI only applies to individuals  Corps cannot deduct personal expenses  Corps cannot use standard deduction, or personal and dependency exemptions  Only corps get dividends received deduction ©2011 Pearson Education, Inc. Publishing as Prentice Hall

12 16-12 Similarities & Differences between Corps & Individuals (3 of 3)  Differences (continued)  Corp charitable contributions 10% of TI  Individuals 50% of AGI  Compensation deduction limitation for Publicly Held Corporations  No preferential tax rate on net LTCG for corps ©2011 Pearson Education, Inc. Publishing as Prentice Hall

13 16-13 Specific Rules Applicable to Corporations  Capital gains and losses  Dividends-received deduction  Net operating losses  Charitable contributions  Compensation deduction limitation for publicly held corporations  Deduction for U.S. production activities ©2011 Pearson Education, Inc. Publishing as Prentice Hall

14 16-14 Capital Gains and Losses  Computation same as for individuals  See Chapter I13  Corporate capital loss limitations  Cannot deduct net LTCL or net STCL  Individuals can deduct net $3,000 CL  Carryback net capital loss back 3 years and forward 5 years  Only individuals carryforward indefinitely ©2011 Pearson Education, Inc. Publishing as Prentice Hall

15 16-15 Dividends-Received Deduction (1 of 2)  Corps owning < 20% of a domestic corporation deduct lesser of  70% of Dividends Received or  70% of taxable income before NOL, capital loss carryback or DRD  Exception to taxable income limitation  If 70% of dividend received creates an NOL, then the full DRD is deductible ©2011 Pearson Education, Inc. Publishing as Prentice Hall

16 16-16 Dividends-Received Deduction (2 of 2)  Corps owning  20% and < 80% of a domestic corp  80% deduction instead of 70%  Corps owning  80% of a domestic corp  100% deduction ©2011 Pearson Education, Inc. Publishing as Prentice Hall

17 16-17 Net Operating Losses  Deductions exceed gross income for the year before NOL carrybacks  Individuals have to make adjustments for non-business income  NOL may be carried back 2 yrs & then forward 20 yrs  Corp may elect to forgo carryback & only carry NOL forward 20 yrs ©2011 Pearson Education, Inc. Publishing as Prentice Hall

18 16-18 Charitable Contributions (1 of 2)  Some restrictions imposed on individuals apply to corps  Timing of deduction  Deducted in the year paid  Accrual basis corps may elect to include payment made w/in 2-1/2 months following the end of tax year  Board of directors must have authorized contribution during year it was accrued ©2011 Pearson Education, Inc. Publishing as Prentice Hall

19 16-19 Charitable Contributions (2 of 2)  Non-cash property  Increased contribution for certain property  Max deduction is 10% of “adjusted taxable income” (ATI)  ATI is taxable income before NOL carryback, capital loss carryback, dividend received deduction or charitable contribution ©2011 Pearson Education, Inc. Publishing as Prentice Hall

20 16-20 Compensation Deduction Limitation for Publicly Held Corporations  Limitation for CEO and its four highest compensated officers  Cash and non-cash compensation in excess of $1M for each officer not deductible ©2011 Pearson Education, Inc. Publishing as Prentice Hall

21 16-21 Deduction for U.S. Production Activities (1 of 2)  Deduction is lesser of a % times  Qualified production activities income OR  Taxable income before the U.S. production activities deduction  Phased-in percentages  6% for  9% for 2010 and thereafter ©2011 Pearson Education, Inc. Publishing as Prentice Hall

22 16-22 Deduction for U.S. Production Activities (2 of 2)  Qualified production activities income  Domestic production gross receipts from lease, rental, sale, or exchange, of tangible property manufactured in the U.S. LESS  Expenses related to qualified income including CoGS, & indirect allocable expenses ©2011 Pearson Education, Inc. Publishing as Prentice Hall

23 16-23 Computation of Tax  Computation of regular tax  Computation of the corporate alternative minimum tax  Penalty taxes  Computation of tax for controlled groups  Consolidated returns ©2011 Pearson Education, Inc. Publishing as Prentice Hall

24 16-24 Computation of Regular Tax (1 of 3) Gross Income -Deductions and Losses -Special Deductions Taxable Income xAppropriate Rate(s) 15%-35%* Regular Tax Liability before credits *38% & 39% bubble tax rates used to eliminate benefit of lower graduated rates ©2011 Pearson Education, Inc. Publishing as Prentice Hall

25 16-25 Computation of Regular Tax (2 of 3) Regular Tax Liability before credits -Foreign tax credit -Other Credits +Credit recapture Regular tax liability ©2011 Pearson Education, Inc. Publishing as Prentice Hall

26 16-26 Computation of Regular Tax (3 of 3) Regular Tax Liability +AMT Liability +Special Taxes (if any) -Estimated Payments Refund or tax due  Large corps (TI>$18.3M) taxed at flat 35%  PSCs taxed at flat 35% ©2011 Pearson Education, Inc. Publishing as Prentice Hall

27 16-27 Computation of Corporate AMT Tax Computation (1 of 3) Taxable income before NOL + Tax preference items +/- Adjustments to taxable income other then ACE adjustment and AMT NOL deduction Pre-adjustment AMTI ©2011 Pearson Education, Inc. Publishing as Prentice Hall

28 16-28 Computation of Corporate AMT Tax Computation (2 of 3) Pre-adjustment AMTI +/- 75% of difference between pre- adjustment AMTI and ACE - AMT NOL deduction AMTI - Statutory exemption Tax base ©2011 Pearson Education, Inc. Publishing as Prentice Hall

29 16-29 Computation of Corporate AMT Tax Computation (3 of 3) Tax base x 20% tax rate Tentative min tax before credits - AMT FTC Tentative minimum tax (TMT) - Regular income tax liability AMT due (if any) ©2011 Pearson Education, Inc. Publishing as Prentice Hall

30 16-30 Computation of Corporate AMT AMT Exemption  Statutory exemption amount  $40,000  Reduced by 25% x (AMTI - $150,000)  Fully phased out when AMTI ≥ $310,000 ©2011 Pearson Education, Inc. Publishing as Prentice Hall

31 16-31 Computation of Corporate AMT Small Business Exception  Initial year: all corps exempt  2 nd year: exempt if first year gross receipts  $5M  3 rd year: exempt if avg. of yr1 and yr 2 gross receipts  $7.5M  Subsequent years: exempt if avg. of prior 3 yrs’ gross receipts  $7.5M ©2011 Pearson Education, Inc. Publishing as Prentice Hall

32 16-32 Penalty Taxes Accumulated Earnings Tax  Penalty tax to compel corps to distribute profits not needed for conduct of its business  Tax at highest individual tax rate on dividends (15% in 2009)  S/h must have tax-avoidance motive to avoid receipt of dividends  Usually applies to closely held corps ©2011 Pearson Education, Inc. Publishing as Prentice Hall

33 16-33 Penalty Taxes Personal Holding Company Tax  Personal holding company tax  Prevents closely held C corps from sheltering passive income from higher individual tax rates  Applies if ≤ 5shareholders who own   50% of outstanding stock at any time during last 6 months of corp’s tax year ©2011 Pearson Education, Inc. Publishing as Prentice Hall

34 16-34 Computation of Tax for Controlled Groups (1 of 3)  Two or more corps owned directly or indirectly by same shareholder or group of shareholders  Must allocate lower corp tax rates among all related corporations  Otherwise taxpayers could split one corp into 2 or more corps to achieve tax savings ©2011 Pearson Education, Inc. Publishing as Prentice Hall

35 16-35 Computation of Tax for Controlled Groups (2 of 3)  Types of controlled groups  Brother-sister  50-80% definition  Five or fewer individuals, trusts or estates own: At least 80% of voting power or at least 80% of value of stock of two or more corporations AND > 50% of the voting power or value is held by identical owners (common ownership)  50%-only definition is 2 nd test above ©2011 Pearson Education, Inc. Publishing as Prentice Hall

36 16-36 Computation of Tax for Controlled Groups (3 of 3)  Types of controlled groups (continued)  Parent-subsidiary  One corp owns ≥ 80% of stock of sub corp  Combined  Three or more corps meet following criteria:  Each corporation is a member of a parent- subsidiary or brother-sister group, AND  At least one is both a parent, and a member of a brother-sister group ©2011 Pearson Education, Inc. Publishing as Prentice Hall

37 16-37 Consolidated Returns  Corps that are members of a parent- subsidiary affiliated group eligible to file a consolidated tax return  Capital losses offset capital gains from other group members  Operating losses reduce operating income from other group members  Transactions between two members treated as taking place w/in same entity ©2011 Pearson Education, Inc. Publishing as Prentice Hall

38 16-38 Transfers of Property to Controlled Corporations  §351 nonrecognition requirements  Basis considerations  Treatment of liabilities ©2011 Pearson Education, Inc. Publishing as Prentice Hall

39 16-39 §351 Nonrecognition Requirements  No gain or loss recognized if:  PROPERTY transferred in exchange for stock and  Transferors have control (80%) of corp immediately after the exchange  Transfers may be for new or existing corps  Gain recognized lesser of gain realized or FMV of boot received ©2011 Pearson Education, Inc. Publishing as Prentice Hall

40 16-40 Basis Considerations Basis of Stock Received by Transferors  Substituted basis in stock received  Basis formula Basis of property transferred to corp + Gain recognized by transferor - Money & FMV of property received - Liabilities transferred to corp Basis of stock received ©2011 Pearson Education, Inc. Publishing as Prentice Hall

41 16-41 Basis Considerations Basis of Property Received by Corporation  Carryover basis in property received  Basis formula Basis of property in hands of transferors + Gain recognized by transferor Basis of property received by corp ©2011 Pearson Education, Inc. Publishing as Prentice Hall

42 16-42 Treatment of Liabilities  Assumption of liabilities by transferee corporation does not trigger gain recognition to transferors  Shareholders must reduce basis by amount of liabilities transferred ©2011 Pearson Education, Inc. Publishing as Prentice Hall

43 16-43 Corporate Capital Structure  Debt has two main tax advantages:  Interest payments deductible  Principal repayments tax-free return of capital  If corp too thinly capitalized IRS may classify part or all of debt as equity  Deductible interest payments become non-deductible dividends ©2011 Pearson Education, Inc. Publishing as Prentice Hall

44 16-44 Earnings and Profits (E&P) Calculation of E&P (1 of 2)  Generally E&P based on corp’s economic ability to pay dividends income instead of taxable income  Adjustments to taxable income for permanent & timing differences including use of different depreciation methods  Distribution a dividend to extent of E&P  Excess distribution a return of capital ©2011 Pearson Education, Inc. Publishing as Prentice Hall

45 16-45 Earnings and Profits (E&P) Calculation of E&P (2 of 2) Taxable income +Excluded taxable income +Taxable inc deferred to another year +/-Inc & deduct recomp under E&P rules +Deductions disallowed for E&P -Nondeductible items that reduce E&P =Current E&P (or current E&P deficit) ©2011 Pearson Education, Inc. Publishing as Prentice Hall

46 16-46 Earnings and Profits (E&P) Current vs. accumulated E&P  Current E&P (CE&P) computed on last day of the corp’s tax year  Distributions first from CE&P  Distributions greater than CE&P  CE&P allocated to distributions pro rata regardless of payment date  Then AE&P (only if positive) allocated to distributions in chronological order ©2011 Pearson Education, Inc. Publishing as Prentice Hall

47 16-47 Nonmoney Distributions Tax Consequences to the Shareholders  Amount distributed = FMV of property  Reduced by liabilities  Treated as taxable dividend if corp has sufficient E&P  Basis of distributed property = FMV  W/o reduction for liabilities ©2011 Pearson Education, Inc. Publishing as Prentice Hall

48 16-48 Nonmoney Distributions Tax Consequences to the Distributing Corporation  Generally corps recognize no gain or loss upon distribution to shareholders  Appreciated property distributed to shareholders treated as if property sold for FMV immediately before distribution  Corporation recognizes realized gain, but not realized loss ©2011 Pearson Education, Inc. Publishing as Prentice Hall

49 16-49 Stock Redemptions (1 of 2)  Redemption treated as a taxable dividend (E&P) unless distribution meets one of the following criteria  Substantially disproportionate rule  Not essentially equivalent to a dividend  Results in a complete termination of shareholders’ interest  Is made in partial liquidation of corp ©2011 Pearson Education, Inc. Publishing as Prentice Hall

50 16-50 Stock Redemptions (2 of 2)  If not a dividend, redemption treated as an exchange  Resulting in capital gain or loss by shareholder ©2011 Pearson Education, Inc. Publishing as Prentice Hall

51 16-51 Corporate Distributions in Complete Liquidation  Tax consequences to the liquidating corporation  Tax consequences to the shareholders  §332: Liquidation of a subsidiary corporation ©2011 Pearson Education, Inc. Publishing as Prentice Hall

52 16-52 Tax Consequences to the Liquidating Corporation (1 of 2)  Gains & losses recognized on asset dispositions  Exception for certain losses  No loss recognition on liquidation of subsidiary to minority shareholders  No loss when property distributed to a related party  §351 contributions of loss property for tax avoidance ©2011 Pearson Education, Inc. Publishing as Prentice Hall

53 16-53 Tax Consequences to the Liquidating Corporation (2 of 2)  Tax attributes of distributed property disappear ©2011 Pearson Education, Inc. Publishing as Prentice Hall

54 16-54 Tax Consequences to the Shareholders  Shareholder assumed to have sold stock for FMV of net assets received  Basis of assets received is FMV FMV of assets - liabilities received - Basis of stock surrendered = Amount of gain (loss) recognized ©2011 Pearson Education, Inc. Publishing as Prentice Hall

55 16-55 §332: Liquidation of a Subsidiary Corporation  Neither parent nor subsidiary recognizes gain or loss of an 80%- owned corporation  Property must be distributed to parent in one or a series of distributions in complete liquidation  Basis carries over to parent ©2011 Pearson Education, Inc. Publishing as Prentice Hall

56 16-56 Tax Planning Considerations  Capital structure and §1244  Dividend policy  Use of losses  Charitable contributions  Dividends-received deductions  Reduced taxes on taxpayer stock sales ©2011 Pearson Education, Inc. Publishing as Prentice Hall

57 16-57 Compliance and Procedural Considerations  Filing requirements  Corporation must file Form 1120  Not based on gross income  Due date is one month earlier than individual returns  Due date for estimated tax installment also one month earlier ©2011 Pearson Education, Inc. Publishing as Prentice Hall

58 Comments or questions about PowerPoint Slides? Contact Dr. Richard Newmark at University of Northern Colorado’s Kenneth W. Monfort College of Business ©2011 Pearson Education, Inc. Publishing as Prentice Hall


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