REG 2 - Corporate Tax

Question 1

C Corporation (3)

Answer 1

C Corporation has three characteristics:

1. Taxpaying Entity (Form 1120)
2. Created formally - Articles of Incorporation
3. Owned by shareholders who has Limited Liability

• 90% is GAAP which uses Accrual - Rest are exceptions
• Tax return due 3/15 (2 1/2 months after year-end)
• Calendar year or Fiscal year

Question 2

Formation of C Corps (4)

Answer 2

Formation - is Formal (Articles of Incorporation)

• Tax-Free if contributions of cash & property gain 80% or more - Control.
  
  • Section 351 Tax Free Exchange - Tax-free exchange if the contributorS of cash & property gain 80% or more of the stock control.

1. Cash or Property 80% more (Control)
   
   • Tax free exchange for stock
   • Carryover Basis
     
     • If property is subject to debt, CV 40-10 debt = 30 basis in stock
   • Carryover holding period
2. Services <80% of stock
   
   • Taxable income at FMV of stock for individual
   • Wage expense for corporation
3. If NO control
   
   • Stock received is taxable to all parties
4. Reorganizations of corporation also tax-free
   
   • Carryover basis

Question 3

Corporate Income Tax Return (1120)

Answer 3

+Gross Income (Worldwide)

-Ordinary Deductions

=Income before “Special Deductions”

• Charitable Contribution (10% of ATI)
• DRD, NOLs

=Taxable Income

xTax Rate

=Gross Tax Liability

-Foreign Tax Credit

=NET Regular Tax Liability

+Personal Holding Company Tax (PHC)

+Accumulated Earnings Tax

+Alternative Minimum Tax (AMT)

=Total Tax Liability

Question 4

Basis of Property Exchanged for Corporate Stock

Shareholder’s Basis

Answer 4

Tax-free exchange under Section 351 if TransferorS have atleast 80% control after the exchange.

Shareholder’s basis in stock received equals:

+Adjusted basis of property transferred

+Recognized gain

+Cash paid

+Liabilities Assumed

+Transaction costs & fees

• Cash Received
• FMV of property received
• Liabilities Transferred

Question 5

Basis of Property Exchanged for Corporate Stock

Corporation’s Basis

Answer 5

Tax-free exchange under Section 351 if TransferorS have atleast 80% control after the exchange.

Corporation’s basis in property received equals:

+Adjusted basis of the property in the hands of the transferor

+Gain recognized by the transferor

Question 6

Revenues

Answer 6

Revenues are generally the same as individual tax with some exceptions:

• Revenue recognized at the earlier of when earned or collected.
• Life Insurance Proceeds on key emplyee
  
  • If corp is the beneficiary, NOT deductible
  • If employee is beficiary, expense IS deductible

Question 7

Deductions

(Accrued Items 4)

Answer 7

Deductions - all reasonable expenses may be deducted.

• Certain accrued items expected to be paid within a short period of time after accrual, however. These may only be deducted when accrued if they are paid within 2.5 months of the corporation’s tax year:
  
  • Wages
  • Bonuses
  • Vacation Pay
  • Charitable Contributions

Question 8

Organizational Expenses

(amount & threshold)

Answer 8

State incorporation fees (including legal & accounting) may be deducted.

• $5K of organizational expenditures & start-up costs may be deducted.
  
  • Threshold: Dollar per dollar after $50K
• Any costs NOT currently deducted may be amortized over 180 months or 15 years.
  
  • MUST elect to amortize in the period of organization

Question 9

Salaries & Wages

&

Bonuses, Vacation Pay

Answer 9

Salaries & Wages, Payroll Taxes & Fringe Benefis:

• Can only deduct up to $1M of compensation expense for each of the highest paid executive officers

Bonuses & Vacation Pay:

• Deductable IF paid w/in 2.5 months after year end (3/15)

Question 10

Estimated Losses

&

Interest Expenses

Answer 10

Estimated Losses are NOT deductible.

• Bad debts NOT claimed until actual Direct Write-Offs
• Warranty costs NOT claimed until actual repairs.

Interest Expenses are NOT deductible if:

• Loan proceeds/expenses are used for tax-exempt investments.

Question 11

Reimbursed Employee Expenses

Answer 11

Reimbursed Employee Expenses that are Deductible:

• 50% of Meals & Entertainment
• 100% of Travel Costs
  
  • Hotel
  • Airfares
  • Car Rentals

Question 12

Casualty Losses

Answer 12

Casualty Losses - Business property-adjusted basis immediately before casualty.

Question 13

Goodwill, Franchise & Trademarks

&

Reasearch & Development

Answer 13

Goodwill, Franchise & Trademarks expenses are amortized over 15 years.

R&D - Immediately deductible OR over amortized over a minimum of 60 monts.

Question 14

What are the three “Special Deductions”?

Answer 14

1. Charitable Contributions
2. Dividend Received Deduction
3. Net Operating Losses

Question 15

Dividends Received Deduction

(DRD)

Answer 15

A deduction for a corporation equal to a percentage of dividends received based on the level of ownership:

• 70% if ownership is less than 20%
• 80% if ownership is between 20% - 80%
• 100% if ownership is greater than 80%

NOTE: Correct! In order for a corporation to claim the dividends received deduction, the corporation must own the investee stock for at least 46 days during the 91-day period beginning on the date 45 days before the ex-dividend date.

Question 16

Investor doesn’t qualify for DRD if? (4)

Answer 16

1. From a foreign corporation (IRS didn’t tax investee)
2. Borrowed money to buy the investment (interest exp)
3. Received from a tax exempt organization
4. Owned for less than 46 days (minimum holding period)

Question 17

Charitable Contributions

(Tested)

Answer 17

Donations made by a corporation to a charitable organization.

• Limited to 10% of ATI
• Adjusted Taxable Income = Net Income adjusted for:
  
  • +Capital Loss Carryback
  • +NOL Carryback
  • +DRD
  • +Charity
• Unused amount is carried forward 5yrs
• Pledge may be accrued if paid within 2.5 months after year end

Question 18

Capital Gains & Losses

Answer 18

When a corp sells assets that are held for investments, the difference between the tax bases & proceeds from sale are recognized as capital gains/losses.

Capital Losses are NOT deductible to a corporation.

• Capital Losses may only offset Capital Gains
  
  • Unused are carred back 3yrs & forward 5yrs
  • All loss carrybacks/forwards are considered short-term.

NOTE: Excess capital losses are deductible for book purposes, but are not deductible for income tax purposes. The losses must be added back to book income.

Question 19

Net Operating Losses

(NOL)

Answer 19

Net Operating Losses are deductible:

• May be carried back 2yrs & forward 20 yrs
  
  • ​Individuals, same rules

Question 20

Non-Deductible Items (6)

Answer 20

1. Federal Income Taxes
2. Government Fines, Fees, Penalties
3. Costs of Issuing Stock
4. Lobbying Costs - for politics
5. Compensation over $1M to top executives
6. Club Dues - considered as personal

Question 21

Non-Deductible Items unitl Paid (5)

Answer 21

1. Bad Debt (Allowance for bad debt expenses)
2. Warranties liabilities
3. Lawsuits
4. Marketable Securities - changes in market value are not reported on the tax return.
5. Inventory - Inventory declines are not reported on the tax return.

Question 22

Foreign Tax Credit (2)

(TESTED)

Answer 22

Foreign Tax Credit is the lower of:

• Taxes paid in the foreign country or
• Credit = US Tax Liability x (Foreign Income/Total Income)

Question 23

What are the three important Penalty Taxes for Corporations?

Answer 23

1. Accumulated Earnings Tax (AET)
2. Personal Holding Company Tax (PHC)
3. Alternative Minumum Tax (AMT)

Question 24

Penalty Taxes

Accumulated Earnings Tax (AET)

Answer 24

AET - A 20% penalty tax is imposed on a corporation for accumulating excessive retained earnings, to encourage the distribution of dividends.

• Safe Harbor allows certain amounts retained:
  
  • Manufacturing Corps = $250K
    
    • PLUS Additional sums retained for Federal Income Taxes
  • Personal Service Corps = $150K
    
    • PLUS Additional sums retained for Federal Income Taxes

Question 25

Penalty Taxes Personal Holding Company Tax (PHC)

Answer 25

**PHC** - Corporations created by individuals to avioid higher tax rate. May be subjected to the **20% tax if BOTH:** * **5 or fewer** individuals owns **more** than **50%** of stock * **60%** or more of **revenues** are from **passive sources** **_NOTE:_**As a result, the tax only applies to **undistributed income** of the corporation. After deducting corporate taxes & net long-term capital gains to arrive at UPHCI.

Question 26

Quarterly Estimated Tax Payments (1120ES)

Answer 26

A corporation is required to make quarterly estimated tax payments during the year & is subjected to a penalty if not paid. Estmated tax payments are **due on the 15 of the 4th, 6th, 9th, & 12th** **months** of its taxable year. * Penalty may be exempt if the following occurs: * **Small Balance** - less than $500 * **Annualized Income** * **Current Year** - estimated tax payments equal to atleast 100% of the current year tax liability * **Previous Year** - estimated tax payments equal to atleast 100% of the previous year

Question 27

Due Dates Corp Tax, Amended, Statue of Limitations

Answer 27

**Corporate Tax** - is on or before the **15th day of the 3rd month** following the close of the year. * Must file a return even if has no taxable income * Extensions: * IRS grants an automatic 6 month extension **Amended Returns (1120X) due by later of:** * **3 Years** after the original return was **due** * **2 Years** after **payment** of the tax was **Statue of Limitations for IRS:** * 3 years after later of due date or filing date * 6 years if total income is understated by 25% or more * Unlimited for tax fraud or non-filing of return

Question 28

Penalties may be excluded if? (4)

Answer 28

Penalty may be exempt if the following occurs: * **Small Balance** - less than $500 * **Annualized Income** * **Current Year** - estimated tax payments equal to atleast 100% of the current year tax liability * **Previous Year** - estimated tax payments equal to atleast 100% of the previous year

Question 29

Corporate Distributions CEP & AEP (4 Scenarios) (TESTED)

Answer 29

**CEP** - Current Earnings & Profits - Similar to Net Income **AEP** - Accumulated E & P - Similar to Retained Earnings There are 4 scenarios regarding CEP & AEP, whether the distribution is taxable or a return of capital: 1. +CEP & -AEP = Taxable up to the CEP amount 2. -CEP & +AEP = Taxable up to the NET of CEP & AEP 3. +CEP & +AEP = Taxable up to the NET of CEP & AEP 4. -CEP & -AEP = Non are taxable, a return of capital **_NOTE_**: If property with an appreciated property is distributed, the FMV less basis is considered part of CEP.

Question 30

Corporate Distribution Property Distribution

Answer 30

When a corp distributes property to a shareholder (dividend-in-kind). * **Shareholder** recognizes property received at **FMV**. * If there is a **liability w/ property distributed**, the basis is still at FMV and the liability IS recorded separately. * **Corporation** must recognize a **gain** if the **FMV** exceeds the tax basis. * If FMV is lower, corporation is NOT allowed a loss deduction. * If **Liability is higher** than the FMV of the asset, the gain realized by the corp is the Liability less the asset's basis. **_NOTE:_** Correct! When a corporation distributes property to a shareholder, the corporation must recognize a gain or loss in the same manner as it would if the property had been sold at its FMV on the date of distribution. However, if a shareholder assumes a liability associated with the asset, and the liability is greater than the FMV of the asset, the FMV of the asset is deemed to be equal to the amount of the liability. Thus, the FMV of the asset is deemed to be $40,000. Aztec must recognize a $15,000 gain ($40,000 - $25,000).

Question 31

Corporate Distribution Non-Liquidating vs. Liquidating

Answer 31

Corporation * Non-Liquidating: * Gain = Taxed (Capital Gain) * Loss = NOT Deductible * Liquidating: * Ordinary Gain * Ordinary Loss Shareholder * Non-Liquidating: * Ordinary Income (Up to E&P) * Liquidating: * Capital Gain * Capital Loss

Question 32

Section 1244 Stock

Answer 32

* If appreciates, gain is considered Capital Gain (Sched D) * **If value declines**, Loss is **considered** an **Ordinary Loss** * **Up to $50,000 Ordinary Loss** * Remainder is $3000 per year * Only applies to the **first $1M of stock** * Must be sold by oridginal purchaser * Issued by a US Corporation for money or property, not services

Question 33

Alternative Minimum Tax | (Calculations)

Answer 33

Regular Taxable Income +/- Adjustments & Preferences **(PILE)** **= AMTI before ACE adjustments** +/- Adjusted Current Earnings (ACE) Adjustments **(SLIM)** **=AMTI before Exemptions** - Exemptions [$40K - 25%( AMTI b4 Exempts - $150K)] =**AMTI** x Tax Rate (20%) **=Tentative Minimum Tax** -Regular Tax (usually given) **=AMT**

Question 34

AMT Adjustments & Tax Preferences | (PILE)

Answer 34

Amounts added back to regular taxable income to compute ATMI. The adjustments & preferences for a corporation include: **PILE** * **P**rivate Activity Bonds interest income * **I**nstallment Sales of Inventory * **L**ong Term Contract Income - must be calculated using percentage of completion method which increases taxable income. * **E**xcess Depreciation on Personal Property over 150%, double declining is not allowed. This reduces expenses & therefore increases taxable income.

Question 35

AMT Adjusted Current Earnings (ACE) Adjustment (SLIM)

Answer 35

Additional items added to taxable income in computing ATMI, consisting of **SLIM**: * **S**eventy Five Percent - 75% of the 70% DRD are added * DRD from stock which have a less than 20% ownership * **L**ife **I**nsurance proceeds on the death of a key employee * **M**unicipal bonds other than Private Activity Bonds

Question 36

Cash Basis vs. Accrual Basis

Answer 36

Correct! Service businesses with gross receipts of $10M or below may use the cash basis. This includes most individuals, S corporations and individually owned partnerships.

Question 37

How are passive losses allocated? What amount of suspended loss should Dietz allocate to Activity X?

Answer 37

Dietz is a passive investor in three activities which have been profitable in previous years. The profit and losses for the current year are as follows: Gain/(Loss) Activity X($30,000) Activity Y($50,000) Activity Z$20,000 Total($60,000) What amount of suspended loss should Dietz allocate to Activity X? Incorrect. A suspended loss is the difference between the total loss incurred in passive activities and the amount that may be deducted by offset against income from passive activities. The suspended loss is allocated to those passive activities incurring a loss in proportion to the amounts of losses. The total of the losses is $80,000, offset by a gain of $20,000, resulting in a suspended loss of $60,000. The portion to be allocated to X will be $30,000/$80,000 X $60,000 = $22,500.