1. ©2015, College for Financial Planning, all rights reserved. Session 5 Corporations and LLCs CERTIFIED FINANCIAL PLANNER CERTIFICATION PROFESSIONAL EDUCATION PROGRAM Income Tax Planning

2. Session Details Module2 Chapter(s)4 - 5 LOs2-4 Explain characteristics, advantages, or disadvantages of a business form. 2-5 Identify requirements for a valid S corporation election. 2-6 Evaluate a situation to recommend the most appropriate business form. 5-2

3. C Corporation 5-3 Advantages Limited liability Transferability of interest Easier to raise additional business capital Continuity of business life Separate taxable entity Graduated corporate tax rates Employee benefit plans Corporate dividend exclusion Section 1244 stock treatment

4. C Corporation 5-4 Disadvantages Corporate formalities required Large amounts of paperwork Generally more expensive to run Excess compensation rules No preferential LTCG rates No deduction for capital losses Possible accumulated earnings tax Double taxation Possible classification as a personal service corporation (PSC)

5. Personal Service Corporation C corporation ONLY Substantially all of the stock held by employees, retired employees, or their estates Substantially all of the services performed in listed fields o Mnemonic: CALL AAA for HELP Benefit of graduated corporate tax rates denied o Flat 35% tax rate 5-5

6. S Corporation 5-6 Advantages Conduit taxation passes through losses and income Section 1244 treatment of stock Potential reduction in Social Security taxes vs. sole proprietorship Disadvantages Profits taxed to shareholders even if not distributed Losses deductible only to extent of basis in stock and debt Required to maintain S status Potential of “sting tax,” LIFO recapture, built- in gains tax

7. S Corporation Election Must be a domestic corporation No more than 100 shareholders allowed Only one class of stock Shareholders must be U.S. citizens or residents All shareholders must be individuals or a certain type of trust All shareholders must elect S status (Form 2553) Majority of outstanding stock to revoke S status 5-7

8. Section 1244 Stock First $1 million of stock issued after incorporation Issued to an individual or partnership Held by original owner Tax treatment o Up to $50,000/$100,000 annual loss treated as ordinary loss o Excess loss is capital loss o Capital gain treatment if sold for gain 5-8

9. LLCs Limited Liability Company Statutory entity Partnership taxation by default Limited liability for members Dissolution upon death, retirement, or resignation Management structure determined by LLC’s operating agreement Single member LLC is treated as a disregarded entity 5-9

10. Check-the-Box Regulations One owner—default taxation as sole proprietorship 2 or more owners— default taxation as partnership May elect to be treated as a corporation under the Regulations 5-10

11. Review Question 1 One tax advantage of a C corporation is a.the ability to have income taxed at lower rates. b.the ability to distribute income to shareholders tax free. c.the ability to contribute, tax free, appreciated securities in exchange for stock of an investment company. 5-11

12. Review Question 2 S corporation shareholders have the ability to deduct losses to the extent of a.their original contribution of capital to the business. b.their adjusted basis in the stock, adjusted for corporate loans personally guaranteed. c.their adjusted basis in the stock, adjusted for money they have directly loaned to the corporation. 5-12

13. Review Question 3 Which of the following are characteristics of a C corporation? I.The number of shareholders is limited. II.The bankruptcy of shareholders has no effect on the business form. III.Shareholder liability is limited. IV.Capital structure is dependent upon the resources of the shareholders. a.I and II only b.I and IV only c.II and III only d.II and IV only e.III and IV only 5-13

14. Review Question 4 Bill Giles, an engineer, is contemplating forming a C corporation for his practice. He will be the sole employee of the corporation. Which of the following statements accurately describe the income tax consequences of such an arrangement? I.The corporation would be considered a Personal Service Corporation. II.The corporation would not be considered a Personal Service Corporation. III.The net income of the corporation will be subject to graduated tax rates. IV.The net income of the corporation will be taxed at Bill’s individual tax rates. V.The net income of the corporation will be subject to a flat 35% tax rate. a.I and IV only b.I and V only c.II and III only d.II and IV only e.II and V only 5-14

15. Review Question 5 Which of the following statements are true regarding an S corporation? I.Shareholders have limited liability. II.The number of shareholders is limited to 100. III.The death of an owner requires reorganization of the corporation. IV.The corporation is a conduit for items of income, deductions, and tax credits. a.III only b.I and IV only c.II and III only d.I, II, and IV only e.II, III, and IV only 5-15

16. Review Question 6 John Matthews, a married taxpayer filing a joint return, sold Section 1244 stock during the current year. Which of the following correctly identify the tax treatment of the sale? I.Up to $50,000 of loss is treated as an ordinary loss. II.Up to $100,000 of loss is treated as an ordinary loss. III.Any loss in excess of the maximum annual ordinary loss is treated as a capital loss. IV.A gain on a sale is considered ordinary income. a.I and III only b.II and III only c.II and IV only d.I, III, and IV only e.II, III, and IV only 5-16

17. ©2015, College for Financial Planning, all rights reserved. Session 5 End of Slides CERTIFIED FINANCIAL PLANNER CERTIFICATION PROFESSIONAL EDUCATION PROGRAM Income Tax Planning