CH 12 LEC 10 by nuhman10


									                                                                                     Dr. Bob’s Notes 12-1
                                           Chapter 12
                                         S Corporations

I. S Corporation Requirements.
   A. Shareholder Requirements.
      1. Limits on Number

       2. Limits on types of shareholders.
          a. Individuals (& their estates)

           b. Trusts – grantor, voting, testamentary, QSST

           c. Retirement plan trusts & charitable organizations

           d. NOT allowed:
                   Partnerships
                   C corporations
                   Nonresident aliens

   B. Corporate Requirements.
      1. Qualified
          Corporation
          Domestic
          Not on the ineligible list

       2. One class of stock limit (but okay if only difference is voting rights)

       3. S ownership in C Corps. is okay

       4. S ownership in other S Corps. is okay
          - An S can own a "qualified subchapter S subsidiary." Requirements are 100%
             owned by S parent and an election to treat all S subsidiary assets, liabilities, income,
             deductions, etc. as the S parent's.

II. Election of S Corporation Status.
    A. Making the Election.
       The election (Form 2553) can be made any time during the preceding year, or by the 15th
       day of the 3rd month of the tax year in which the election is to be effective.

                                               S Corp-1
                                                                                         Dr. Bob’s Notes 12-2
          1) Consent of Shareholders. Each shareholder must consent to the election. This
             includes all shareholders on the date of the election, and all prior shareholders for the
             tax year, if the election is retroactive.

       B. Termination of the Election.
          1) Methods:
             - Voluntary. Shareholders owning > 50% of the stock on the day of revocation must
             consent to the revocation.
             - retroactive

              -   prospective

              - Cessation of Small Business Status. The S corporation election is terminated if the
              corporation fails one of the small business corporation tests. Timely corrections to
              reinstate S status allowed (letter ruling issued).

              - Excess Passive Income. (applied annually) A termination will result if more than
              25% of the corporation's gross receipts is portfolio income for each of 3 consecutive
              years AND the corporation has C corporation earnings and profits.

          2) New Election Following a Termination.
             - Generally, a 5-year wait before making a new election.

III.      S Corporation Operations.
       A. Taxable Year.
          - calendar year, natural business year, or Sec. 444 election (no more than 3 months

       B. Ordinary Income or Loss. (same as partnerships)
          - ordinary income
          - separately-stated items

       C. Special S Corporation Taxes. S corporations may be subject to three special tax levies.
          All of these apply only if the S corporation was at one time a regular C corporation.
          1. excessive passive investment income tax;
          2. built-in gains tax; and
          3. LIFO recapture

                                                  S Corp-2
                                                                                   Dr. Bob’s Notes 12-3
IV. Taxation of the Shareholders.
    A. Income Allocation Procedures.
       - Timing of shareholder reporting is same as partnerships.

       -   No special allocations allowed.
           Example: Al contributes $50,000 cash, and Betty contribute property (basis = $35,000;
           FMV = $50,000) in exchange for 50% (each) of S Inc. stock. If S Inc. sells the property
           contributed by Betty for $75,000, how is the gain allocated?

       -   If stock is transferred during the year, income must be allocated between the owners on
           a per-share, per-day basis. However, "affected" shareholders (buyer and seller) to elect
           to close the books as of transfer date.
           Example: Al owns 100% of an S corporation. On 10/1, he sells 25% of the stock to
           Betty. How is each item of income and loss allocated?

   B. Loss and Deduction Pass-through to Shareholders.
      1) Allocation of Loss. Excess loss could create an NOL for the shareholder and results in
         a carryback or carryover to the shareholder's other tax years.

       2) Shareholder Loss Limitations.
          - Losses (incl. separately stated deductions) limited to basis in stock plus basis of any
             indebtedness owed directly by the S corporation to the shareholder.

                                              S Corp-3
                                                                                    Dr. Bob’s Notes 12-4
V. Basis Adjustments.

      A. Basis Adjustments to S Corporation Stock. (Basis adjustments parallel partnerships.)
         + Investments
         - Withdrawals (Dividends)
         + Income items (ordinary, tax-exempt, separately stated)
         - Loss items (ordinary, tax-exempt, separately stated)

VI.      S Corporation Distributions.

      A. Order:

        Acct        Title                                  What is it?                   Taxable?
1       AAA         Accumulated Adjustments

2       E&P         Earnings & Profits

3       OAA         Other Adjustments Account

4       Basis

5       Cap Gain

      B. Example: Jan has a total basis in her S corporation stock of $10,000. Corporate accounts
         are: AAA = $3,000; E&P = $1,000. Jan receives a $5,000 distribution from the
         corporation. How is it treated?

                                                S Corp-4

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