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S Corporation
(R5 M1) (Property Contributions to an S Corp:
The…
S Corporation
(R5 M1)
Property Contributions to an S Corp:
The contributions will be tax-free if it is:
- a contribution of property (not services)
- solely in exchange of stock
- after the transfer, the shareholder has control of the corporation through 80% of the ownership
- Other transactions are treated as taxable sale & recognize gain/ loss
Eligibility:
- USA, not a nonresident alien
- shareholders must be an individual, estate, or certain types of trusts
- neither corporations nor partnerships are eligible shareholders
- there cannot be more than 100 shareholders (couple counts as one)
- there cannot be more than one class of stock
Tax needs to be paid by 3.15 Or have 75 days of the first business year to make the election
Year-end is 12.31Corporation level tax:
- LIFO recapture tax: if a C corporation chose to become a S corporation, then need to include in the taxable income the excess of inventory computed under FIFO over LIFO
- Built-in gains tax: there is a tax on S corporation if: (1) C corporation became S corporation, AND (2) FMV of assets > Basis
Exemptions: (1) never was a C corporation, (2) the sale or transfer does not occur within 10 years, (3) the appreciation occur after corporation became a S, (4) the asset distributed was acquired after S, OR (5) the net unrealized built-in gain has been recognized
Built-in tax = 35% * (the lesser of (1) recognized built-in gain for the current year OR (2) the taxable income of S if it were a C corporation
- Tax on passive investment income: (1) S has accumulated E&P from C corporation AND (2) passive investment income exceeds 25% of gross receipts
Impact on Shareholders:
- Income: K-1: allocations to shareholders are made on a per share per day basis
- Pass-through losses: shareholder can deduct up to (Basis + Direct Loans)
Losses are also limited to the at-risk amount: usually = stock and debt basis (shareholder is not personally liable to bank loans)
at-risk amount can be increased by: (1) shareholder's contribution of cash or other property to the corporation, (2) loans to the corporation, and (3) allocable share of income undistributed
at-risk amount can be reduced by: (1) allocable share of losses, and (2) distributions of cash or other property
Things reported on K-1: taxed when earned not received/ distributed
- Ordinary income
- Rental income/ loss
- Portfolio income
- Tax-exempt interest
- Percentage depletion
- Foreign income tax
- Section 1231 gains and losses
- Charitable contributions
- Expense deduction for recovery property
- Unrecaptured section 1250 income
- Gain/ loss from sale of collections
Fringe Benefits:
- deductible for non-shareholder employees
- not deductible for shareholder's owning over 2%
Accumulated Adjusted Account (AAA):
- AAA is an account to store shareholder's earnings (the amount in this account is 0 at the inception date)
- increased by income & gains
- decreased by corporate distributions, expenses & losses, nondeductible expenses that relate to income other than tax-exempt income
Shareholder's Basis in S Corporation Stock:Initial Basis
Income items (include tax free income)
Additional shareholder investments in corporation stock
(Distribution to shareholders)
(Losses or expenses)
=Ending basis
- S shareholder debt does not increase basis
- S corporation shareholder can deduct pro rata loss
Loss limitation = Basis + Direct shareholder loan - Distributions
Taxability of Distributions to Shareholders:S corporation with no C corporation E&P:
- To the extent of basis in stock: non taxable -> return of capital
- In excess of basis of stock: taxed as long-term capital gain -> capital gain distribution
S corporation with C corporation E&P:
- To extent of AAA: non taxable -> S corporation profits
- To extent of C corporation E&P -> taxed as a dividend, does not reduce basis in stock -> Old C corporation taxable dividend
- To extent of basis of stock: non taxable -> return of capital
- In excess of basis of stock: taxed at long-term capital gain -> capital gain distribution
Terminating the S Election:
- voluntary revocation (if over 50% shareholders revoke)
- the corporation fails to meet the requirement
- more than 25% of the corporation's gross receipts come from passive investment for 3 consecutive years & had C corporation E&P
Can re-elect as S corporation after 5 years/ or ask IRS for permission
Liquidation of an S Corporation:
- Distribution of property: FMV - Basis in Asset = Taxable Gain/ Loss (increase SH's stock basis)
- To shareholder:
Cash
FMV of property
(Liabilities assumed)
(Stock basis)
= Taxable gain/loss
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Trust and Estate
(R5 M6)
Separate Entities:
- Trust and estates are separate entities called "fiduciaries"
- Distributions made by these entities are deductible by the entity but taxable to the recipient
- Fiduciary is a person in a position of special trust and confidence toward another who: (1) holds property for which another person has beneficial title or interest; AND/OR (2) receives and controls income of another
Taxation of estates:
Income tax: due annually based on income earned during the year while the estate is in existence
Estate tax: one-time-only transfer tax based on the value of the decedent's estate (taxed to the estate before the property is transferred)Income Taxation Rules:
- Taxed either at the entity or the individual level: calculation:
Estate (trust) gross income
(estate (trust) deductions)
= adjusted total income
adjusted tax-exempt interest
(capital gains)
= distributable net income (DNI)
Deductions are allowed for ordinary and necessary business expenses incurred in:
- Carrying on a trade or business
- Production of income
- Management or conservation of income-producing property
- Determination, collection, or refund of any tax
- Contributions to a charity (an unlimited charitable deduction is allowed if such contributions are provided for in a will)
Income distribution deduction = the lesser of
(1) actual distribution to beneficiary, OR
(2) DNIAnnual Estate Income Tax (Form 1041):
- Required when annual income exceeds $600
- Tax year for estate can be either tax year or fiscal year, estate elect year end
- Estimated payment: estate is exempt from making estimated tax payments for its first 2 tax years
Annual Trust Income Tax (Form 1041):
- Must use a calendar year
- A trust can deduct amounts distributed to beneficiaries up to the DNI
1. Simple Trust:
- only makes distributions out of current income
- required to distribute all of its income currently
- cannot take a deduction for charitable contribution
- $300 exemption
2. Grantor Trust:
- the grantor retains control over the trust assets
- is considered a disregarded entity for income tax purposes
- a grantor can be a qualified shareholder or a S corporation
- grantor report the income & pays tax
3. Complex Trust:
- can accumulate current income
- can distribute principal
- can have charitable deduction
- $100 exemption
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