#11706 - Introduction - Corporate Tax (Duke Zelenak)

C corporation: Corporations subject to the double tax regime under Subchapter C.

1. Corporation has 100 income - 100*35% corporate tax tax=65

2. 65 - 65*20% tax on dividends on shareholders=52

Double tax v. single tax

1. Sometimes the double tax is good

   1. E.g. 50k corporate income, tax 15%, 42.5k after tax

   2. Pay 42.5% dividends, at 20% capital gains rate, 34k after tax

   3. Combined effective tax rate is 32%.

   4. Single tax would be 39.6%

Strategies eliminating shareholder tax

1. Not distribute the earnings, let the corporation to keep the money

   1. In closely-held situations, corporate tax rates are usually 34%, whereas the shareholder tax rate is usually 39.6%, so it’s better not to distribute.

2. Section 302, shareholder selling back shares to corporation and recover basis

   1. non-meaningful redemption (one that does not change shareholders’ percentage of shares) treated as dividends, and no basis recovery

      1. E.g. Corporation X, A and B shareholders, each has 50% shares, each sells back 20 shares to the corporation, A and B still each has 50% shares.

   2. Meaningful redemption, basis recovery (treated as a sale)

      1. If A sells back all his shares, B still holds shares, after redemption, B owns 100%

3. The owner dies, basis step up to FMV. Section 1014 (step up basis) and section 302 (basis recovery) work together to eliminate tax on dividends.

Strategies eliminating corporate level tax

1. In closely-held context, shareholders are also employees (double hats), so the corporation can just pay dividends in the forms of salary or bonus.

   1. Bad news is you are then taxed at higher income tax rates

   2. Good news is you get rid of double tax and wipe out the corporate level tax

   3. Limited to closely-held corporation

2. Subchapter S election

   1. Small business corporations can elect to be taxed under a conduit approach similar to the taxation of partnership, and therefore eliminate the corporate tax

      1. But shareholders are taxed on the corporation’s retained earnings, in proportion to their stock holdings

   2. Corporation can make S election only if

      1. it has no more than 100 shareholders who are not nonresident aliens, estates or certain trusts, and

      2. the S corporation may not have more than one class of stock.

   3. limited to closely-held corporation

3. Don’t be a corporation at all, elect to be a LLC

   1. LLCs are treated as partnerships for tax purposes, therefore LLCs avoid the double tax on corporate profits while obtaining limited liability for all the owners of a business

   2. This choice is limited to closely-held businesses

4. General utilities doctrine (repealed)

   1. If a corporation distributes appreciated property in-kind to shareholders, corporation does not recognize any gain.

   2. Happen when corporation is in M&A

   3. Congress repealed it, no longer the law.

Partnerships are pass-through entities that do not pay federal income tax.

1. income generated by the business is taxed only once to the beneficial owners of the enterprise, whether or not they receive current distributions;

2. losses pass through to the owners and subject to various timing limitations, may be deducted against income from other sources.

Rates:

1. Section 11 p24

   1. 15% of first 50k

   2. 25% of 50k-75k

   3. 34% of 75k-10M

   4. 35% of 10M

2. Section 11(b) imposes an additional five percent tax on taxable income in excess of 100k up to a maximum increase of 11,750.

   1. Cancels out tax savings from lower rates on the first 75k of taxable income

   2. Creates a tax rate bubble on taxable income between 100k and 335k

3. Corporations with taxable income in excess of 15M must increase tax by the lesser of 3% of excess or 100k.

   1. Creates a second tax rate bubble.

   2. As a result corporations with taxable income over 18,333,333 are taxed at a flat 35%

4. Section...