CHOOSING AN ENTITY FORM AND TAXATION OF CORPORATIONS
I Organizational Form
A) What are the possible forms in which to organize a business enterprise?
a) LLP-like a general partnership, except that partners are not personally
liable for other partners malpractice.
b) LLC-like a limited partnership without a general partner, and limited
partners can participate in management.
B) What are the characteristics of a corporation, that differentiate it from other
C) Check the Box Rules
1) The IRS used to challenge the taxpayers status quite often, and the courts
would decide if, for example, an organization was truly a partnership
rather than a corporation. This decision usually relied on 2-5 above.
1) Beginning in 1997, the Regulations were amended to allow new
enterprises to simply check the box and be taxed as a corporation or
partnership regardless of characteristics of the entity. This is an election
that must be filed with the IRS.
II Taxation of Corporations
A) Gross Income Calculate Tax
(less) Expenses (less) Tax Credits
Taxable Income Tax Liability
(How does this differ from the calculation of the Individual tax liability?)
B) In general, the corporate tax system is the same as the individual tax system that
you have learned. For example, definitions of income, business expenses, and the
calculation of gains and losses are the same.
C) However, there are quite a few differences.
1) Accounting Period-
2) Accounting Method-
3) Capital gains
5) Charitable contributions
7) Dividends Received Deduction (why do we have this deduction?)
<20% owned - 70% deduction
20-80% owned- 80% deduction
>80% owned- 100% deduction
Calculation can be complex in situations where the corporation has a loss
for the year.
III Controlled Groups- Since tax rates are progressive, gains could be made by splitting a
large corporation into multiple small corporations. The Solution is to tax such groups of
corporations as, in essence, a single corporation with respect to the tax rate schedule.
E.g. AB corporation produces income of $100,000. To take advantage of the rate
schedule, AB splits into two corporations A co. and B co. As AB they were taxed
$20,000 (7,500 + 25%(100,000-50,000)). They figure that by splitting into two
corps they can reduce their tax to $15,000 (15% * 50,000 + 15% * 50,000).
482 also gives IRS power to reallocate income and deductions to prevent abuse.
A) Parent-Subsidiary controlled group
1) Parent Corporation controls (owns) a subsidiary corporation
2) Ownership Test: voting power test- own at least 80% of voting
power; value test- own at least 80% of total value
B) Brother-Sister controlled group
1) two or more corporations are owned by 5 or fewer persons.
2) Total ownership test: met if shareholder group possesses stock
representing 80% of voting power or value of corporations.
3) Common ownership test: met if group owns > 50% of total
combined voting power or value when only identical ownership is
C) Combined Group- when a parent is a member of a brother-sister controlled group
IV Form 1120
A) Front page
B) M-1 - Differences between book and tax income
1) additions to book income
2) subtractions from book income
C) M-2 Reconciliation of Retained Earnings