Chap C3 by wuxiangyu


									Chap C3

   1. tax year:
           - by filing first return. End on last day of month, can use 52/53 week year
           - short period returns
           - can usually choose any month end unless PSC
           - to change periods, need IRS approval (business purpose) unless authorized
             by Regs
   2. accounting method: cash or accrual
   3. inventory method

Corporate vs. individual tax treatment:

Have most income items but corps have fewer exclusions (home sale exclusion)

No distinction or limit on interest expense (portfolio etc)

No itemized deducts or personal exemption

Can deduct ordinary and necessary business exp’s if reasonable in amount (salaries of SH
and family members)

No deduction for penalties, fines, insur premiums on policies where corp is beneficiary,
50% of meals and entertainment

Capital gains – no preferential rate

Capital losses – no deduction for net cap loss. Only can offset cap gains. Can carry back
excess 3 years and forward 5 years.

Dividends received deduction: 70/80/100% deduction allowed

1245 recapture is the same.

1250 recapture – corps are subject to additional recapture of 20% of excess of recaptured
amount if property was 1245 over amount recaptured as 1250. (20% of lesser of ) a) depr
taken and not recaptured under 1250 or b) recognized gain not recaptured : Sec 291

Passive losses – only applicable to closely held corps.
Deduction for amortization of organization expenses (Sec 248):

1. deduct the lesser of a) amount of the expenditures or b) 5,000 reduced (but not below
   zero) by amount by which start-up expenditure exceed 50,000. Any excess is then
   amortized over 180 months commencing with business beginning

2. Subject expenses are

a) legal fees for corp charter, by laws, minutes of organizational meetings

b) accounting fees for incorporation

c) temporary directors fees and fees to state of incorporation, expenses connected with
   issuing or selling stock. Commissions and underwriting fees are not included. They
   are included in stock basis.

3. Start-up costs (Sec 195) – deduct the lesser of a) amount of the expenditures or b)
    5,000 reduced (but not below zero) by amount by which start-up expenditure exceed
    50,000. Any excess is then amortized over 180 months commencing with business
. Ordinary and necessary expenses in getting the business ready to operate and
investigating the business. Salaries, rent, marketing, depreciation and testing expenses
(attach to first return, even if there aren’t any)

Accrued compensation: must pay within 2 ½ months of year-end to deduct in prior year

Corporate charitable contributions:

1. Cash: If accrual method, can deduct amounts authorized by the Board before the end
   of the tax year, if they are paid within 2 ½ months of the year end. Make election and
   attach board resolution to return

2. Contributions of ordinary income property (if sold for FMV would produce a gain
   other than LTCG). The deduction is limited to the AB of the property, but if the
   property is used by charity exclusively for care of needy, infants or ill, corp can
   deduct AB + ½ of unrealized appreciation, limited to 2X AB

3. Contributions of capital gain property (deduct = FMV) unless:

a. if tangible personal property is donated and put to use that is not related to exempt
   purpose, or

b. donation of appreciated property to certain private foundations, then the deduction is
   limited to the (FMV – appreciation)
overall limit on charitable contrib is 10% of tax income (before charitable, DRD, NOL
c/b and CL c/b). Any excess can be carried forward 5 years. Use current year
contributions first in determining the limit.

US Production Activities Deduction:

Deduction of a % of the lesser of 1) qualified production activities income for year or 2)
taxable income before US production activities deduction

% is:

2005-06        3%
2007-09        6%
2010 and after 9%

deduction can’t exceed 50% of corps W-2 wages for year

qualified production activities income = domestic prod gross receipts – COGS allocable
to these receipts-other deductions/expenses/losses directly allocable to these receipts-
ratable portion of other deductions/expenses/losses not directly allocable to these receipts
or to other classes of income

Dividends Received Deduction:

To mitigate triple taxation.

Corp owns < 20%, 70% DRD

Owns >= 20% < 80%, 80% DRD

Own >= 80%, 100%DRD

DRD is limited to the DRD % of taxable income before NOL (CB of CF) and DRD and
capital loss c/b. But no limit if corp has a loss for the current year.

3 step analysis

1. dividends x DRD %

2. tax income x DRD %

DRD is lesser of 1 or 2 unless if subtracting 1 creates an NOL, then use 1 as DRD.

Qualified activities deduction comes after DRD

    1. excess of deducts over income. No adjustments like individuals
    2. c/b 2, c/f 20
or elect to forego c/b and just c/f 20

Sequence of deductions:

   1.   all deducts except charitable, DRD and NOL
   2.   charitable (test for 10% limit)
   3.   DRD
   4.   NOL

Compensation planning SH/employee
      - single taxed, income to SH, deduct to corp
      - fringe benefits can be provided
      - risk of unreasonable comp and reclass to dividend income

Transactions between Corp and Controlling (over 50%) SH’s:

1. Losses are not deductible, but can offset any future gains on sale.

2. Accrual basis corp can’t deduct accrued expenses payable to cash method 50%
   related party until the amounts are paid (the tax year in which the SH includes them in
   gross income)
Corp tax rates: 15-35% with 2 bubbles to get flat 34/35%

Estimated Taxes:
    - must make if liab > 500
    - if not large corp, lesser of 100% of CY tax or 100% of PY tax (only if positive tax
    liab in PY)
    - make quarterly, incl AMT (4/15, 6/15, 9/15 and 12/15 for 12/31 year-end)

Large Corp: has tax inc of 1 mill or more in any of 3 preceding years
    - estimated tax then is 100% of CY, but can base 1st qtr on 25% of PY and evenup
    in 2nd
Annualization allowed for large and small corps

Corp files Form 1120. Due 2 ½ months after year-end but can file for automatic 6 month
extension, Form 7004

Timing of Deductions:

1. Allowance for doubtful accounts: not deductible. Only specific write-offs deductible.
   Any increase in allowance, not deductible. A decrease in allowance is deducted.

2. Accrued vacation: amounts paid within 2 ½ months of year-end are deductible in
   prior year. The net accrued vacation (of the 2 ½ months) is not deductible.
3. Accrued reserves: not deductible until actually paid (lawsuit reserves, post-retirement
   benefits, other book reserves/accruals)

4. Fines & penalties: not deductible

5. only 50% of meals & entertainment deductible

6. Limits on accrued compensation: must pay within 2 ½ months for deduct in prior year

Reconcile book to tax income and analysis of retained earnings. (Schedule M-1 and M-2
of Form 1120)

Sch M-1:

Line 1: book net income-bottom line
Line 2: federal income tax deducted for book income
Line 3: excess of cap loss over cap gain (not deducted)
Line 4: taxable income not on books
   -    prepaid items
   -    installment income in later years
   -    gain/loss difference on asset sales

Line 5: expenses on books not deductible:
   -    depr
   -    50% meals and entertainment
   -    penalties
   -    excess contributions not allowed (10% limit)

Line 7: income on books not taxable:
   -    tax exempt interest
   -    life insur proceeds where corp is beneficiary
   -    installment income in year of sale deferred
   -    gain/loss diff

Line 8: deductible expenses not on books
   -    deprec
   -    cap loss c/f
   -    contribution c/o

M-2: reconcile book retained earnings (book inc, dividends and prior period adjustments

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