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Exam 15: Entities Overview

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Question 21

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Tax rules require that entities be classified the same way for tax purposes as they are classified for legal purposes.

A) True
B) False

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Question 22

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In the current year, DNS (a C corporation) had taxable income of $600,000 and distributed all of its after-tax earnings to Daniel, its sole shareholder. DNS's tax rate is 38 percent. Assuming Daniels's marginal tax rate on ordinary income is 28 percent and his dividend rate is 15 percent (he is not subject to the net investment income tax), what is the overall tax rate (combined corporate level and shareholder level) on DNS's $600,000 of taxable income?

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Question 23

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C corporations and S corporations are separate taxpaying entities that pay tax on their own income.

If you were seeking an entity with the most favorable tax treatment regarding (1) the number of owners allowed, (2) the flexibility to select your accounting period, and (3) the availability of preferential capital gains rates when selling your ownership interest, which entity should you decide to use?

Assume you plan to start a new enterprise; you know the probability of having losses for the first three years of operations is almost 90 percent, and you know you will report a substantial amount of income from other sources during those same three years. From a tax perspective, which of the following entity choices would be least favorable?

Corporation A owns 10% of Corporation C.The marginal tax rate on non-dividend income for both A and C is 34%.Corporation C earns a total of $200 million before taxes in the current year, pays corporate tax on this income and distributes the remainder proportionately to its shareholders as a dividend.In addition, Corporation A owns 20% of partnership P that earns $500 million in the current year.Given this fact pattern, answer the following questions: a.How much cash from the Corporation C dividend remains after Corporation A pays the tax on the dividend assuming Corporation A is eligible for the 70 percent dividends received deduction? b.If partnership P distributes all of its current year earnings in proportion to the partner's ownership percentages, how much cash from Partnership P does Corporation A have after paying taxes on its share of income from the partnership? c.If you were to replace corporation A with individual A [her marginal tax rate on ordinary income is 28% and on qualified dividends is 15% (the net investment income tax does not apply)] in the original fact pattern above, how much cash does individual A have from the Corporation C dividend after all taxes assuming the dividends are qualified dividends? Consistent with the original facts, assume that Corporation C distributes all of its after-tax income to its shareholders.

S corporation shareholders are legally responsible for paying the S corporation's debts because S corporations are treated as flow-through entities for tax purposes.

Corporations are legally formed by filing articles of organization with the state in which the corporation will be created.

Emmy would like to organize PRK as either an LLC or as a C corporation generating a 15 percent annual before-tax rate of return on a $100,000 investment. Individual ordinary rates are 25 percent, corporate rates are 15 percent, and individual capital gains and dividends tax rates are 5 percent. PRK will distribute its earnings annually to either its members or shareholders. a. Ignoring self-employment taxes, how much would Emmy keep after taxes if PRK is organized as either an LLC or as a C corporation? b. Ignoring self-employment taxes, what are the overall tax rates (combined entity and owner level) if PRK is organized as either an LLC or a corporation?

Robert is seeking additional capital to expand ABC Inc. In order to qualify ABC as an S corporation, which type of investor group could Robert obtain capital from?

A single-member LLC is taxed as a partnership.

Logan, a 50 percent shareholder in Military Gear Inc., is comparing the tax consequences of losses from C corporations with losses from S corporations. Assume Military Gear Inc has a $100,000 loss for the year, Logan's tax basis in his Military Gear Inc. stock was $150,000 at the beginning of the year, and he received $75,000 ordinary income from other sources during the year. Assuming Logan's marginal regular income tax rate is 15%, how much more tax will Logan pay currently if Military Gear Inc. is a C corporation compared to the tax he would pay if it were an S corporation?

What document must LLCs file with the state to organize their business?

Sole proprietors are subject to self-employment taxes on net income from their sole proprietorships.

Which of the following is not an effective strategy for mitigating double taxation in a C corporation?

Cali Corp. (a C corporation) projects that it will have taxable income of $250,000 for the year before paying any fringe benefits. Stacey, Cali's sole shareholder, has a marginal tax rate of 33 percent on ordinary income and 15 percent on dividend income. Assume Cali's tax rate is 34 percent. a. What is the amount of the combined corporate and shareholder level income tax on Cali's $250,000 of pre-benefit income if Cali Corp. does not pay out any fringe benefits and distributes all of its after-tax earnings to Stacey? b. What is the amount of the combined corporate and shareholder level income tax on Cali's $250,000 of pre-benefit income if Cali Corp. pays Stacey's adoption expenses of $50,000 and the payment is considered to be a qualified fringe benefit? Cali Corp. distributes all of its after-tax earnings to Stacey. c. What is the amount of the combined corporate and shareholder level income tax on Cali's $250,000 of pre-benefit income if Cali Corp. pays Stacey's adoption expenses of $50,000 and the payment is considered to be a nonqualified fringe benefit? Cali Corp. distributes all of its after-tax earnings to Stacey.

An unincorporated entity with more than one owner is, by default, taxed as a partnership.

Both tax and nontax objectives should be considered when choosing an appropriate business entity.

Which of the following entity characteristics are generally key drivers for small business owners in deciding which entity to choose?

SNL corporation, a C corporation, reports $400,000 of taxable income in the current year. SNL's tax rate is 35 percent. Answer the following questions, assuming Keegan, SNL's sole shareholder, has a marginal tax rate of 39.6 percent on ordinary income and 23.8 percent on dividend income (including the net investment income tax). a. Compute the first level of tax on SNL's taxable income for the year. b. Compute the second level of tax on SNL's income assuming that SNL currently distributes all of its after-tax earnings to Keegan. What is the overall (combined owner and entity level) tax rate on SNL's taxable income for the year?