💰Federal Income Tax Accounting Unit 15 – Taxation of Corporations
Corporate taxation is a complex area of study that focuses on how businesses structured as corporations are taxed. This unit covers the basics of corporate tax structures, types of corporations, and key concepts like dividends, basis, and liquidations.
The unit also delves into corporate income and deductions, tax implications of forming a corporation, and special considerations like the Alternative Minimum Tax. It explores stock transactions, capital gains, and the tax treatment of corporate reorganizations and liquidations.
Corporation a separate legal entity owned by shareholders that provides limited liability protection
C corporation default corporate tax structure taxed as a separate entity from its owners
S corporation pass-through tax structure where income and losses flow through to shareholders' individual tax returns
Dividend distribution of a corporation's earnings to its shareholders
Basis shareholder's investment in the corporation used to calculate gains or losses
Liquidation process of dissolving a corporation and distributing its assets to shareholders
Reorganization restructuring of a corporation through merger, acquisition, or division
Corporate Tax Structure Basics
Corporations taxed as separate entities from their owners at the corporate tax rate
Corporate income subject to double taxation once at the corporate level and again when distributed to shareholders as dividends
Corporations must file Form 1120 (U.S. Corporation Income Tax Return) annually
Fiscal year corporations can choose a tax year different from the calendar year
Corporations must make estimated tax payments throughout the year
Alternative Minimum Tax (AMT) applies to corporations to ensure they pay a minimum amount of tax
AMT calculated separately from regular corporate income tax
Corporations must pay the higher of regular tax or AMT
Types of Corporations and Their Tax Treatment
C corporations default corporate tax structure
Taxed as separate entities from their owners
Income taxed at the corporate level and dividends taxed at the shareholder level
S corporations pass-through tax structure
Income and losses flow through to shareholders' individual tax returns
Avoids double taxation but has strict eligibility requirements
Closely held corporations owned by a small group of shareholders
May be subject to additional tax rules to prevent tax avoidance
Personal holding companies (PHCs) corporations with primarily passive income
Subject to additional tax to discourage using corporations to hold investments
Publicly traded partnerships (PTPs) partnerships traded on public exchanges
Taxed as corporations unless they meet specific exemption requirements
Corporate Income and Deductions
Gross income includes all income from any source, such as sales, investments, and foreign income
Deductions allowed for ordinary and necessary business expenses
Salaries and wages
Rent and utilities
Depreciation of assets
Interest expense
Net operating losses (NOLs) occur when deductions exceed gross income
NOLs can be carried forward to offset future taxable income
Charitable contributions deductible up to 10% of taxable income
Meals and entertainment expenses subject to 50% deduction limitation
Certain expenses, such as penalties and fines, are not deductible
Tax Implications of Corporate Formations
Incorporation transfer of assets and liabilities from owners to the corporation in exchange for stock
Generally tax-free under IRC Section 351 if owners hold 80% or more of the corporation's stock
Basis in stock equal to the basis of assets contributed to the corporation
Liabilities assumed by the corporation treated as money received by the owners
Built-in gains on contributed assets may be subject to tax if sold within 5 years
Organizational costs (legal and accounting fees) deductible over 180 months
Startup costs (business expenses before active trade) deductible up to $5,000 in the first year, remainder amortized over 180 months
Corporate Distributions and Dividends
Dividends distributions of corporate earnings to shareholders
Taxed as ordinary income to shareholders
Not deductible by the corporation
Qualified dividends taxed at preferential long-term capital gains rates for individual shareholders
Basis in stock reduced by non-dividend distributions (return of capital)
Accumulated earnings tax (AET) imposed on corporations retaining earnings to avoid shareholder taxation
Personal holding company tax (PHC tax) imposed on undistributed passive income of closely held corporations
Redemptions corporation's purchase of its own stock from shareholders treated as a sale or exchange
Stock Transactions and Capital Gains
Capital gains and losses result from the sale or exchange of corporate stock
Basis in stock equal to the purchase price plus any commissions or fees
Holding period determines tax treatment (long-term if held for more than one year)
Net capital gains (long-term gains minus long-term losses) taxed at preferential rates for individual shareholders
Capital losses deductible against capital gains and up to $3,000 of ordinary income for individual shareholders
Excess capital losses carried forward to future tax years
Wash sale rule disallows loss deduction if substantially identical stock is purchased within 30 days before or after the sale
Corporate Liquidations and Reorganizations
Liquidation distribution of all corporate assets to shareholders in exchange for their stock
Gain or loss recognized by both the corporation and shareholders
Shareholders receive fair market value (FMV) basis in assets received
12-month liquidation (IRC Section 337) gain on asset sales not recognized by the corporation if all assets are distributed within 12 months
Reorganizations tax-free restructuring of corporations
Types include mergers, acquisitions, spin-offs, and recapitalizations
Continuity of interest (COI) requirement shareholders must maintain a substantial interest in the reorganized corporation
Continuity of business enterprise (COBE) requirement reorganized corporation must continue the historic business or use a significant portion of the historic assets
Carryover basis in tax-free reorganizations shareholders and corporation retain their original basis
Special Tax Considerations for Corporations
Accumulated earnings tax (AET) imposed on corporations retaining earnings to avoid shareholder taxation
Applies if accumulated earnings exceed 250,000(150,000 for personal service corporations)
Personal holding company tax (PHC tax) imposed on undistributed passive income of closely held corporations
Passive income includes dividends, interest, royalties, and rents
Alternative Minimum Tax (AMT) ensures corporations pay a minimum amount of tax
Adjustments and preferences added back to regular taxable income
AMT credit can be carried forward to offset regular tax in future years
Section 179 expensing allows immediate deduction for qualifying business property
Limit of $1,080,000 for 2022 (adjusted annually for inflation)
Charitable contributions deductible up to 10% of taxable income
Excess contributions carried forward for up to 5 years