Post on 21-Dec-2015
transcript
Corporate Income TaxTx 8120
Learning Goals
1. Explain _____ and _____ of incorporating,
2. Calculate shareholder-level _____,
3. Discuss corporate _______ requirements,
4. Explain corporate choices in accounting ________ and methods,
5. Describe effects of _________ transactions on corporations and owners, and
6. Determine impact of dividend received deduction.
You should be able to:
Business Form ChoicesSole proprietorships
Partnerships
C corporations
S corporations
Limited liability companies
Corporate form
Quote Worth Re-Quoting
“Decisions to embrace the corporate form of organization should be carefully considered, since a corporation is like a ________ ____: easy to enter, difficult to live in, and painful to get out of.”
Corporate form
Check the Box
• Treated as corporation if:– _________ business entity– Unincorporated business entity but box _________– Publicly traded __________
• Unincorporated business entity– ___________ if box checked or PTP– _________ if ≥ two members and box unchecked– _______ (sole proprietorship) if only one corporate
(individual) member and box unchecked
Corporate form
C Corporation Advantages
Corporate form
• Easy to create– Simple ______ procedures– Often done ____-free
• Limited liability
• Few restrictions on raising capital– No limit on _______ and _____ of owners – Multiple ________ of stock allowed
C Corporation Disadvantage(Double Tax)
• Many opportunities for reducing double tax in ______-_____ corporations– Deferring __________– __________ profits as salary, rent, or interest
• _______ tax effect may be small– DRD for _________ shareholders, §243– Individual shareholders taxed at __% or ___%
Corporate form
Reducing Double Tax(Siphoning Strategy)
C
Dividendsof $____
Profit $100RateTax
DividendsRateTax
C
Salaryof $____
Profit $100SalaryTaxableRateTax
SalaryRateTax
Corporate form
Tax Rate Terminology
Statutory Tax Rates: Appear in _____
€
= Total Income Tax
Total Income
€
= Incremental Income Tax
Incremental Income
________ Tax Rate
________ Tax Rate
Tax rate concepts
Section 11(a)(Domestic Corporations)
(a) Corporations in general.
A tax is hereby imposed for each taxable year on the taxable income of every corporation.
Tax basex Tax rate
Tax
Tax rate concepts
DomesticCorporation’s
U.S. TaxLiability
Income- Exclusions
Gross income- Regular deductions and losses
Taxable income before special deductions- Net operating loss deduction- Dividend received deduction
Taxable incomex Statutory tax rates
Income tax before credits- Credits+ Recapture of prior credits
Regular income tax liability+ Alternative minimum tax+ Accumulated earnings tax+ Personal holding company tax- Estimated tax payments
Income tax liability
Tax rate concepts
Section 882(a) (Foreign Corporations)
(a) Imposition of tax.
Tax basex Tax rate
Tax
(1) In general. A foreign corporation engaged in trade or business within the United States during the taxable year shall be taxable as provided in section 11, 55, 59A, or 1201(a) on its taxable income which is effectively connected with the conduct of a trade or business within the United States.
Tax rate concepts
ForeignCorporation’s
U.S. TaxLiability
Income- Exclusions
Effectively connected gross income- Apportioned deductions and losses
Taxable income before special deductions- Net operating loss deduction- Dividend received deduction on ECI
Effectively connected taxable incomex Statutory tax rates
Income tax before credits- Credits+ Recapture of prior credits
Regular income tax liability+ Alternative minimum tax+ Investment income @ 30% tax- Estimated tax payments
Income tax liability
1. Regular rates on U.S. _________ income
2. ___% (or treaty rate) on U.S. ___________ income
U.S. taxes FCs at:
Tax rate concepts
Section 11(b)(1)
(b) Amount of tax.
(1) In general. The amount of the tax imposed by subsection (a) shall be the sum of--
(A) 15 percent of so much of the taxable income as does not exceed $50,000,
(B) 25 percent of so much of the taxable income as exceeds $50,000 but does not exceed $75,000,
(C) 34 percent of so much of the taxable income as exceeds $75,000 but does not exceed $10,000,000, and
(D) 35 percent of so much of the taxable income as exceeds $10,000,000.
Tax rate concepts
Section 11(b)(1)
In the case of a corporation which has taxable income in excess of $100,000 for any taxable year, the amount of tax determined under the preceding sentence for such taxable year shall be increased by the lesser of (i) 5 percent of such excess, or (ii) $11,750. In the case of a corporation which has taxable income in excess of $15,000,000, the amount of the tax … shall be increased by an additional amount equal to the lesser of (i) 3 percent of such excess, or (ii) $100,000.
Tax rate concepts
Statutory Tax Rates(Lower Brackets)
Taxable Income
Rat
es
15%
25%
34%
$100,000 $200,000 $300,000
34%
Tax rate concepts
Taxable Income
Rat
es
$5 million
35%
$10 million $15 million $20 million
35%34%
Statutory Tax Rates(Upper Brackets)
Tax rate concepts
Marginal Tax Rates
Tax rate concepts
Treating corporate profit as incremental income, what is a shareholder’s marginal tax rate on corporate profit currently distributed as a dividend?
What is a shareholder’s marginal tax rate on corporate profit distributed as a dividend in a later year?€
MTR sh = t c + t sh (1 - t c)
€
MTRsh = tc + tsh (1 - tc)(1 + d)y
Assume a sole shareholder’s tax bracket is 35% and her corporation’s tax bracket is 35%. What is the shareholder’s MTR on $100 the corporation earns and distributes?
Assume the same tax rates mentioned above except the corporation defers paying a dividend for three years. Using a discount rate of 10%, what is the shareholder’s MTR now?
Marginal Tax Rates(Examples)
Tax rate concepts
Filing Requirements
• File Form 1120 by ___th day of __rd month– Schedule ___ is balance sheet
– Schedule ___ reconciles book and taxable income
– Schedule ___ reconciles retained earnings
– Schedule ___ for midsize and large corporations
• Section 6012(a)(2) requires a _______, even if taxable income is zero.
• Form 7004 provides an automatic __-month extension
Procedural matters
Taxable Years
• Selecting initial taxable year on first return– Choices include
• ________ year, §441(d)• _______ year, §441(e)• Annual period of __ or ___ weeks ending on same
day of week, §441(f)
– Income of initial and last year not __________
• Changing taxable year, §442– Usually needs IRS ________– Income of short period __________, §443(b)(1)
Procedural matters
Taxable Years(Annualizing Income)
€
1. Taxable income for short period x 12
Short period months =
2. Annualized income x statutory tax rates =
€
3. Annualized tax x Short period months
12 =
Procedural matters
Taxable Years(Example)
Corporation earns $100,000 taxable income during short taxable year of 3 months. Without annualization, the corporation’s federal income tax equals $22,250 (i.e., 22.25% average tax rate). What is the corporation’s actual ATR?
€
Annualized income = $ x months
months = $
Annualized tax = $ x statutory rates = $
€
ATR =
=
€
Tax liability = $ x months
months = $
Procedural matters
Accounting Methods
• Corporations generally use ______ method.
• Cash method can be used by:– Corporations with average annual gross receipts
≤ $__ million over __-year testing period for all post-1985 years
– Qualified ________ service corporations– Corporations in _________ business
Procedural matters
Capital Gains and Losses(Fundamentals)
• Two requirements:– Capital _____, §1221 – _____ or __________, §1222
• Capital gain or loss is “long-term” if taxpayer holds disposed asset > __ _____, §1222.
Property transactions
Capital Gains and Losses(Combining)
Short-TermCapital Gains
Short-TermCapital Losses
Long-TermCapital Gains
Long-TermCapital Losses
Net ST CapitalGain or Loss
Net LT CapitalGain or Loss
Net ST GainNet LT Gain
Net ST GainNet LT Loss
Net ST LossNet LT Gain
Net ST LossNet LT Loss
or
or
Net ST gain and___ capital gain
Capital gain ________ or___ capital loss
___ capital loss or___ capital gain
___ capital loss
or
Property transactions
Corporate Capital Gains and Losses(Implications)
• Net capital gains and capital gain net income– Taxed same as __________ income– Beneficial since they absorb ________
__________
• Net capital losses– Not currently _____________– Carried back __ and forward __ years
Property transactions
Individual Capital Gains and Losses(Implications)
• Net capital gains• Sec. 1202 gain @ ___% (before ___% exclusion)
• Most capital gains @ ___%
• Individuals in lower brackets @ ___%
• Net capital losses– Only ______ annual deduction– Carried forward __________
Property transactions
Capital Gains and Losses(Example 1)
The average tax rate of Powertie, Inc. each year is 34%. In 2006, Powertie incurs a net capital loss of $15,000. In prior years, Powertie reported the following amounts of capital gain net income:
2002200320042005
(a) How much of the $15,000 loss can Powertie deduct on its 2006 return?
(b) What tax refund can Powertie claim?(c) How much of the $15,000 loss carries
forward?
Property transactions
Capital Gains and Losses(Example 2)
Bob is a successful day trader who has been in the 28% tax bracket for several years. However, the market was bad this year, and Bob incurred a net capital loss of $40,000. Capital gain net income in prior years was:
200320042005
(a) How much of the $40,000 loss can Bob deduct on his 2006 return?
(b) What tax refund can Bob claim?(c) How much of the $40,000 loss carries
forward?
Property transactions
Sec. 1231 Gains and Losses
• Sale or exchange (and certain ____________ conversions) of
• Business property– _______ and– ____________ assets
• Held __ __ year
Property transactions
Sec. 1231 Gains and Losses
• If net §1231 loss occurs:– Treat as _________ deduction and– No _____ against net capital gain
• If net §1231 gain occurs:– Treat as ________ income to extent of non-
recaptured ______ ______ in prior 5 years,– Treat remaining net §1231 gain as long-term
_______ gain
Property transactions
Sec. 1231 Gains and Losses(Example 1)
In preparing the corporate return for Dr. Judy’s veterinarian practice, you calculate the following gains and losses:
Long-term capital gainLong-term capital loss§1231 gain§1231 lossNet §1231 loss from two years ago
How are these transactions reflected on the corporate return?
Property transactions
Sec. 1231 Gains and Losses(Example 2)
In preparing the corporate return for Dr. Judy’s veterinarian practice, you calculate the following gains and losses:
Net capital loss (before §1231)§1231 gain§1231 lossNet §1231 loss from two years agoNet capital loss from four years ago
How are these transactions reflected on the corporate return?
Property transactions
Depreciation Recapture(Basics)
Amount- Adjusted
gain- Depreciation recapture
Section gain
Treated as ___________ income
Treated as __________ ______ gain
Property transactions
Depreciation Recapture(§1245)
• Principal categories:– ___________ personalty– ____________ personalty
• ____ prior depreciation is recaptured (including _____ deductions).
Property transactions
Depreciation Recapture(§§1250 and 291)
• Section 1250– Applies to residential rental (nonresidential)
______ acquired before 1987 (1981)– Recaptures only “______” depreciation over
SL
• Section 291– Applies to §____ property of corporations– Recaptures ___% of difference between
§_____ and §_____ recapture
Property transactions
Depreciation Recapture(Example 1)
Hank is the sole shareholder of Middle Earth Mining, Inc. Middle Earth experienced the following:
Gain on sonar equipmentLoss on mining carts
Middle Earth had deducted $24,000 depreciation on the sonar equipment and $11,000 on the carts. How are these transactions reflected on the corporate return?
Gain on sonar equipment: §1245 income of §1231 gain ofLoss on mining carts: §1231 loss ofNet §1231 loss of (ordinary) and §1245 gain of (ordinary)
Property transactions
Depreciation Recapture(Example 2)
Lorent, Inc. sells an apartment building for $500,000 that it originally bought for $400,000 in 1985. Before the sale, Lorent deducted $366,000 ACRS depreciation (straight-line would have been $357,000). Calculate the §1231 gain, §1250 recapture, and §291 recapture.
Amount realized Original cost ACRS depreciationAdjusted basisRecognized gain§1250 ordinary income§291 ordinary income§1231 gain
ACRSSL§1250 recapture
§1245 less §1250
§291 recapture
Property transactions
Sales to Related Persons
• Losses not deductible, §___
• Gain from selling depreciable property:– Treated as ________ income, §1239– Ineligible for ____________ method, §453(g)
Property transactions
Section 243(a)
(a) General rule.
In the case of a corporation, there shall be allowed as a deduction an amount equal to the following percentages of the amount received as dividends from a domestic corporation which is subject to taxation under this chapter:
(1) 70 percent, in the case of dividends other than dividends described in paragraphs (2) and (3);
(2) 100 percent, in the case of dividends received by a small business investment company…; and
(3) 100 percent, in the case of qualifying dividends….
Dividend received deduction
Section 243(b)
(b) Qualifying dividends.
(1) In general. For purposes of this section, the term “qualifying dividend” means any dividend received by a corporation--
(A) if at the close of the day on which such dividend is received, such corporation is a member of the same affiliated group as the corporation distributing such dividend….
Dividend received deduction
Section 243(c)
(c) Retention of 80-percent dividends received deduction for dividends from 20-percent owned
corporations.
(1) In general. In the case of any dividend received from a 20-percent owned corporation--(A) subsection (a)(1) of this section, …shall be applied by substituting “80 percent” for “70 percent”.
Dividend received deduction
MTR Example
Jody owns 100% of PCo, which owns 70% of SCo. SCo earns profit and distributes the entire after-tax amount as a current dividend. PCo, in turn, pays the entire amount received (after tax) to its sole individual owner. What is the maximum MTR of Jody related to SCo’s profit?
MTRJody = tSCo + tPCo (1 - tSCo) (1 - DRD) + tJody [1 - tSCo - tPCo (1 - tSCo) (1 - DRD)]
MTRJody =
Dividend received deduction
SCo
PCo
100%
70%
Jody
Dividend received deduction
MTRJody =
Dividend Received Deduction
< 20% ___%≥ 20% but < 80% ___%≥ 80% (affiliated) ___%
Ownership DRD Percentage
DRD may be limited or disallowed if:• Taxable income is ____,• Dividend received from ______ corporation,• Stock is held for ______ time, or• Stock is acquired with _____ financing.
Dividend received deduction
Section 246(b)
(b) Limitation on aggregate amount of deductions.
(1) General rule. Except as provided in paragraph (2), the aggregate amount of the [dividend received] deductions allowed … shall not exceed the percentage … of the taxable income computed without regard to the deductions allowed by sections 172, 199, [dividend received deduction] … and without regard to any capital loss carryback ….
(2) Effect of net operating loss. Paragraph (1) shall not apply for any taxable year for which there is a net operating loss (as determined under section 172).
Dividend received deduction
DRD When Taxable Income Low
Taxable income before ________ deductions- Dividend received times percentage
Net operating loss
< 20%
70%≥ 20% but < 80%
80%
Ownership DRD PercentageTaxable income before _______ deductions+ U.S. ___________ activities deduction (§____)+ Capital loss carryback deductions
Taxable incomex percentage
_______ on dividend received deduction
However, “unlimited” DRD allowed when
_____ results.
Dividend received deduction
DRD Limit(Example)
Border, Inc. earned $30 million in consulting fees, but incurred $32 million of business deductions and losses. Border also received $___ million dividend income from minority interests (< 20%) in several corporations. Compute Border’s taxable income.
IgnoringDRD Limit
ConsideringDRD Limit
Net business lossDividend incomeDRDTaxable income
Dividend received deduction
Section 245(a)
(a) Dividends from 10-percent owned foreign corporations.
(1) In general. In the case of dividends received by a corporation from a qualified 10-percent owned foreign corporation, there shall be allowed as a deduction an amount equal to the percent (specified in section 243 for the taxable year) of the U.S.-source portion of such dividends.
€
U.S. Source Portion = Dividend Received x Post-1986 Undistributed ECI
Post-1986 Undistributed E&P
Dividend received deduction
Dividend from Abroad(Example)
Global, Inc. owns 12% of ForCo (organized in Asia) from which Global receives $100 dividends. ForCo’s E&P shows:
E&P (2006) $ 200 $ 500E&P (1987-2005) 600 700
ForeignE&P
E&P fromECI
To what DRD is Global entitled?
€
DRD = Dividend x E & P from ECI
All E & P x DRD percentage
Dividend received deduction
Section 246(c)(1)
(c) Exclusion of certain dividends.
(1) In general. No deduction shall be allowed under section 243, 244, or 245, in respect of any dividend on any share of stock--
(A) which is held by the taxpayer for 45 days or less during the 91-day period beginning on the date which is 45 days before the date on which such share becomes ex-dividend with respect to such dividend …
Dividend received deduction
Dividend Chronology• ____________ date is when the Board of Directors commits to pay a
dividend and records liability as “_________ ________.” “_________ _________” are set aside.
• ____________ date occurs a few days before record date and is the first day shares trade without the declared dividends.
• _______ date is when the Board “________” list of shareholders who receive the declared dividend.
• ________ date is when corporation writes dividend check to shareholders of record and satisfies “_________ ________.”
Declaration
Ex-Dividend
Record
Payment
NYSE sets at __business days Varies, but often about __ weeks
______ usually establishes
……
Dividend received deduction
45-Day Rule Prohibits DRD
Rationale: Prevents corporation from buying stock just before ________ date and selling stock immediately afterwards
Arbitrage, Inc. buys 21% of Target @
$__ per share
Arbitrage sells all Target stock @ $__ per share
Target, Inc. declares $__ per share dividend
Results Absent §246(c)(1)• Dividend’s MTR =• _________ loss (equal to dividend)
deductible against capital gains subject to MTR of ____%
Dividend received deduction
Section 246A(a)
(a) General rule.
In the case of any dividend on debt-financed portfolio stock, there shall be substituted for the percentage which (but for this subsection) would be used in determining the amount of the deduction allowable under section 243, 244, or 245(a) a percentage equal to the product of--
(1) 70 percent (80 percent in the case of any dividend from a 20-percent owned corporation …), and(2) 100 percent minus the average indebtedness percentage.
Dividend received deduction
€
Average indebtedness percentage = Average
Average
Debt Financing Reduces DRD
Rationale: Prevents corporation from _______ interest while paying ____ ____ on related dividend income
Results Absent §246A(a)• Dividend’s MTR =• Related interest deductible against
income subject to MTR of ___%
Target
Corporation
Buy stock(< 50% or, if
Target closely held, < 20%)
Dividend received deduction
Section 1059(a)
(a) General rule.
If any corporation receives any extraordinary dividend with respect to any share of stock and such corporation has not held such stock for more than 2 years before the dividend announcement date--
(1) Reduction in basis. The basis of such corporation in such stock shall be reduced (but not below zero) by the nontaxed portion of such dividends.(2) Amounts in excess of basis. If the nontaxed portion of such dividends exceeds such basis, such excess shall be treated as gain ….
Dividend received deduction
Lind et al., pp. 192-93
June 1(declaration)
June 8(record)
June 27(payment)
ArbitCo buys 1,000 shares of TargetCo for $15 per share
TargetCo declares $1 per share dividend
June 3 June 30
ArbitCo receives $1,000 dividend
ArbitCo sells 1,000 shares of TargetCo for $14 per share
June 5(ex-dividend)
(a) What might ArbitCo be seeking to accomplish?
What is the actual tax result?
Dividend received deduction
Lind et al., pp. 192-93(continued)
June 1(declaration)
June 8(record)
June 27(payment)
ArbitCo buys 1,000 shares of TargetCo for $15 per share
TargetCo declares $1 per share dividend
June 3 Dec. 1
ArbitCo receives $1,000 dividend
ArbitCo sells 1,000 shares of TargetCo for $14 per share
June 5(ex-dividend)
(b) What if ArbitCo waits until Dec. 1 to sell TargetCo stock?
…
Dividend received deduction
Lind et al., pp. 192-93(continued)
June 1(declaration)
June 8(record)
June 27(payment)
ArbitCo buys 1,000 shares of TargetCo for $15 per share
TargetCo declares $2 per share dividend
June 3 Dec. 1
ArbitCo receives $2,000 dividend
ArbitCo sells 1,000 shares of TargetCo for $13 per share
June 5(ex-dividend)
(c) In addition, what if dividend is $2 per share instead of $1?
…
Dividend received deduction
Lind et al., pp. 192-93(continued)
June 1(declaration)
June 8(record)
June 27(payment)
ArbitCo buys 1,000 shares of TargetCo for $15 per share
TargetCo declares $2 per share dividend
June 3 Much later
ArbitCo receives $2,000 dividend
ArbitCo sells 1,000 shares of TargetCo for $13 per share
June 5(ex-dividend)
(d) In addition to assuming the dividend equals $2 per share, what if ArbitCo waits until 25 months after the dividend to sell its TargetCo shares?
…
Dividend received deduction
Net Operating Losses
Gross income- Regular deductions and losses
Taxable income <loss> before special deductions- Dividend received deduction
Net operating loss, §___Carryback __ Years or Forgo
Carryforward __ Years
Election to forgo:1. Made by due date (including extensions)2. __________ but applies only to that year
Miscellaneous items
Charitable Contributions
• If ________ basis, donations the ______ authorizes during year are deductible if paid by return’s ________ due date
• Limited to ___% of taxable income before:– Charitable contribution deduction,– Dividend received deduction, and– NOL and capital loss carryback
• Carryforward __ years (_____ basis)
Miscellaneous items