BUSINESS - CRAM SESSION TOPICS Flashcards
What is the earliest date that a business can be treated as a corporation without regard to the election relief rules, if they file Form 8832 by March 15 of any given year.
The earliest date is: January 1 of the year the Form 8832 is filed.
This is so because, an eligible entity may elect an alternative treatment no more than two months and 15 days after the beginning of the tax year the election is to take effect, or anytime in the preceding tax year.
What is the rule concerning an LLC changing its Tax Classification.
Once the LLC entity makes an election to change its taxation classification, the entity generally cannot change its classification by election again for 60 months (5 YEARS) after the effective date.
It can be changed with IRS permission, but that is not the norm.
When must an entity elect to become a Corporation for the current tax year?
They must elect an alternative tax treatment for their company no more than 2 months and 15 days after the beginning of the tax year the election is to take effect.
That, or any time in the preceding tax year.
So MARCH 15th is the last day if you want your entity to have the new election on Jan 1 of that year.
The amortization of a bond premium should be calculated using the CONSTANT YIELD TO MATURITY METHOD, and can be used as an offset to interest income.
Using the Constant yield method:
Purchase Price x Yield To Maturity (YTM) at issuance - Subtract the Coupon Interest.
As the bond reaches maturity, the premium with be amortized over time, eventually reaching $0 on the exact date of maturity.
(Good to know. Not core test material)
Intangibles (including purchased goodwill) are amortized over 15 years.
True or False?
True.
Note: Anti-churning rules prevent you from amortizing most section 197 intangibles if the transaction in which you acquired them didn’t result in a significant change in ownership or use.
(Good to know. Not core test material)
A corporation has two choices with qualifying research and development (R&D) expenditures.
- Deduct the expenses, or
- Elect to capitalize the expenditures and amortize ratably over a five-year period.
(Good to know. Not core test material)
What are 2 types of Capital Expenses that CANNOT be Amortized
- Costs for issuing stock, securities, or partnership interests, such as commissions, professional fees, and printing costs.
- Costs associated with the transfer of assets to the business.
Start Up Costs Examples (S&W, A, A, T)
Salaries & Wages - Employees, Execs, Consultants
Analysis of Markets
Advertising
Travel
Most states do not restrict ownership, and so Corporation MEMBERS may include
- Individuals,
- Corporations,
- Other LLCs, and
- Foreign entities.
There is no maximum number of members, or an LLC can simply be one individual.
S CORP NOTE:
Most entities including business trusts, partnerships, and corporations are prohibited from holding stock in S Corps. That and Non-Resident Aliens.
Section 263A
UNICAP “Uniform Capitalization Rules”
They capitalize the direct cost and part of the direct costs for production or resale activities.
Beginning in 2018 under the TCJA, any producer that meets the “Gross Receipts Test” (under $26 Million for 2019) is EXEMPTED from the application of Section 263A.
Self-Employed Health Insurance Deduction
Health Insurance Premiums are deductible provided the TP is:
- Self-Employed with a net profit reported on Sch C or Sch F if farming.
- A partner with net earnings from SE reported on Sch K-1
- A shareholder owning more than 2% of outstanding stock of an S Corp with wages from the Corp reported on Form W-2, Wage and Tax Statement.
The TP MUST establish the insurance plan under the TP’s business, however the plan may either be in the name of the business or the individual.
Describe the AUTHORIZATION OF CHARITABLE CONTRIBUTIONS process and provide the date the payment must be made.
Contributions that are authorized by the board of directors during a tax year are assumed to have been paid in that tax year if payment is made by the 15th day of the 3rd month (March 15) of the following tax year.
At the end of 20X1, if the board authorizes a contribution, it must be paid out by March 15.
START UP AND ORGANIZATIONAL DEDUCTIONS
A corporation can elect to deduct up to $5,000 of business start-up and up to $5,000 of organizational costs paid.
Any remaining costs must be amortized over a period of 15 years.
The company may start expensing or amortizing these costs from the date that the business started operations.
For each category, the $5,000 initial deduction is reduced by the amount of total costs that exceed $50,000. $1 reduction for every $1 of excess costs.
If the total costs are $55,000 or more, the initial deduction is reduced to zero. $55,000 – $50,000 = $5,000 excess.
Generally, you must file Form 1095-C by ___________ if filing on paper.
February 28th
Capital Losses
What is the Carryback and Carryforward?
Does FIFO apply?
Corporate capital losses may NOT be used to offset ordinary income.
Capital losses that are not used to offset capital gains in the current period may be carried back for three periods or forward for five years to offset capital gains in those periods.
Capital losses are used on a FIFO basis.
Capitol Losses - Example
Polina Corp. had a $10,000 short-term capital gain and a $23,000 long-term capital loss in 20X7. The resulting net capital loss of $13,000 is NOT deductible in the current year. Instead, the loss is carried back to 20X4 and may be used to offset capital gains in 20X4. If there are no capital gains in 20X4, it may be used in 20X5 or 20X6.
If there are no capital gains in the previous three years, it may be carried forward for up to five years.
When it is used, it will be treated as a SHORT-TERM capital loss, even though a long-term loss created the original carryback.
ORGANIZATIONAL COSTS
Include any costs of creating a corporation that are INCURED BEFORE the end of the first tax year.
The costs of TEMP DIRECTORS
The costs of ORG MEETINGS,
State INCORPORATION FEES, and
The cost of LEGAL SERVICES related to starting the business.
____________________
NOTE: The cost of issuing and selling stock is an example of what is NOT an organizational cost that can be amortized
START UP COSTS defined
Costs related to creating an active trade or business, or investigating the creation or acquisition of an active trade or business.
An ANALYSIS or survey of potential markets, products, labor supply, transportation facilities, etc.,
ADVERTISMENTS for the opening of the business,
SALARIES and WAGES for employees who are being trained and their instructors,
TRAVEL and other necessary costs for securing prospective distributors, suppliers or customers,
SALARIES and FEES for executives and consultants, or for similar professional services.
START UP DEDUCTIONS - Example 03
Polina opened a bakery on October 22, 20X6. Polina incurred $53,000 of start-up expenses before the bakery opened.
What can she deduct from her start-up costs?
Because the expenses exceed $50,000, Polina must reduce the initial year $5,000 deduction by $1 for every $1 of start-up costs over $50,000. Thus, the $5,000 amount is reduced to $2,000. Polina will amortize the remaining $51,000 ($53,000 - $2,000) over 180 months. The monthly amortization amount is $283 ($51,000/180).
In Polina’s first year, the amount of start-up costs expensed is $2,850. This is the $2,000 of expensed costs and 3 months of amortization.
Earlier Net Operating Losses - Prior to 2018 TCJA ammendments
NOLs arising in taxable years beginning before 2018 remain subject to prior law.
Not subject to the 80-percent limitation and are able to be carried back for a period of two years, or carried forward for up to 20 years.
Calculating NOL
The net operating loss is essentially the net loss for the company.
CASUALTY OR THEFT LOSSES may be included as part of the net operating loss.
The DIVIDENDS RECEIVED DEDUCTION is calculated without the limitations to a percent of taxable income.
The corporation may NOT deduct any carryovers from other years.
CAPITAL LOSS CARRYOVERS may NOT be used in year with a net operating loss.
The same is true of CHARITABLE CONTRIBUTIONS CARRYOVERS.
Normally no deduction for charitable contributions is allowed in a loss year because charitable contributions are limited to a percentage of net income.
NET OPERATING LOSS - Example
In 2019, Marcus Corp. had $250,000 of gross income from business operations and $310,000 of allowable business expenses. Marcus Corp. also received $100,000 in dividends from a U.S. corporation. Marcus Corp. is able to take a 65% dividend received deduction, which would normally be limited to 65% of its taxable income before the deduction.
Marcus Corp. calculates its NOL as follows:
Gross Income = $350K (Business Income + Dividends)
Minus Expenses ($310K)
Minus Dividend Rec’d Deduction ($65K) - there is no limitation for the NOL calculation
= NOL ($25K)
Threshold Amount in relationship to NOL
The Maximum Net Loss a TP, other than a Corp, may deduct is $255,000 ($510,000 for MFJ).
And this Excess Business Loss is NOT ALLOWED for the taxable year.
Net Operating Loss - Rules of the Road
Corporations may use a net operating loss to offset taxable income in future periods.
Carry forward indefinitely.
Deduction limited to 80% of taxable income. (2018 and later)
NET OPERATING LOSS
An Excess Business Loss. The amount by which the total deductions from TP’s trades are MORE than the total gross income or gains from TP’s trades PLUS the Threshold Amount.
The Threshold Amount for 2019 is $255,000.
And $510,000 for MFJ filers.
Separately Stated Items
Some items are considered to be “separately stated”. Instead of affecting the income or expense of the entity, they’re passed through to the owners separately. These are on the shareholders K-1s.
EXAMPLES:
- Section 1231 gains and losses,
- Net short-term capital gains and losses,
- Net long-term capital gains and losses,
- Dividends eligible for the dividends received deduction (if a shareholder is a C-Corporation),
- Charitable contributions,
- Taxes paid to a foreign country,
- Tax-exempt interest and related expenses,
- Investment income and expenses,
- Amounts previously deducted, such as bad debts,
- Real estate income and expenses,
- Section 179 deductions,
- Tax credits, and
- Non-deductible expenses, such as 50% of meals and entertainment expenses.
Special Depreciation Property
To be eligible for the special depreciation allowance, the property must be certain qualified property acquired after December 31, 2017 and placed in service before January 1, 2023.
Tangible property depreciated under MACRS with a recovery period of 20 years or less.
Water utility property.
Computer software that is readily available for purchase by the general public, is subject to a nonexclusive license, and has not been substantially modified.
Qualified leasehold improvement property.
Qualified film, television and live theatrical productions.
Qualified reuse and recycling property.
Qualified second-generation biofuel plant property.
Nontaxable exchange
A nontaxable exchange is an exchange in which any gain is not taxed and any loss can not be deducted. If you receive property in a nontaxable exchange, its basis is usually the same as the basis of the property you exchanged.
Exchange of Like-Kind Property
If the properties in an exchange are “like-kind” (similar in nature or character), and held either for:
- productive use in a trade or business, or
- for investment,
No gain or loss will be recognized on the transaction by either party.
Like-Kind Exchange with Boot
Boot is cash, other property, or the assumption of liabilities that belonged to the other party.
If boot is received as part of like-kind exchange, some gain will recognized by the recipient of the boot.
Loss is NEVER recognized in a Like-Kind Exchange.
True or False?
True.
A loss is never recognized in like-kind exchanges, even when there is boot included in the transaction.
Basis of New Like-Kind Asset (Formula)
KNOW THIS!!!!
Basis of Old Property Exchanged
+ Basis of any BOOT given
+ Gain Recognized
- FMV of BOOT Received
= Basis in the Newly Acquired Property
(NOTE: The basis of the boot received will be its FMV.)
How to calculate the adjusted basis of a new building received in a like-kind exchange.
EXPLANATION
If a taxpayer trades business or investment property for other business or investment property of a like kind, the taxpayer does not pay tax on any gain or deduct any loss until he sells or disposes of the property received. If a taxpayer acquires property in a like-kind exchange, the basis of that property is generally the same as the basis of the property transferred. With the following adjustments:
INCREASE BASIS by the total amount of:
- Additional money paid, including exchange expenses
- FMV of any non-like kind property transferred to other party
- Net liabilities assumed by the taxpayer
- Any gain recognized on the exchange
DECREASE BASIS by the amount of:
- Boot received (ie. money, FMV of non-like kind property, net liabilities other party assumes)
- Any loss recognized on the exchange
Categories of Personal Property for Depreciation
Personal property includes all tangible property that is not real property.
3-year – tractor units and race horses over 2 years old
5-year – automobiles, light trucks, computers
7-year – office furniture and fixtures
10-year – ships and water transportation
These assets are depreciated using the 200% Declining Balance Method, and then switching to a Straight Line method when the Straight Line Method results in a larger deduction.
Categories of Personal Property for Depreciation for 15 and 20 years
15-year – wastewater treatment plants
20-year – municipal sewers and farm buildings
These assets are depreciated using the 150% Declining Balance Method, and then switching to a Straight Line method when the Straight Line Method results in a larger deduction.
De Minimis Safe Harbor
A way to help a business decide if an expense should be Capitalized or Deducted.
Eliminates having to make a decision for every small expenditure a company makes.
Allows taxpayers to follow financial accounting treatment of these expenditures for tax purposes, provided the amounts deducted under their financial accounting policies adhere to specific dollar limitations.
De Minimis Limitations
The regulations provide a de minimis safe harbor limit of $5,000 per item substantiated by invoice for taxpayers that have an Applicable Financial Statement (AFS).
This limit is $2,500 for taxpayers that do not have an AFS.
This limit is a “cliff.” If you’re over the limit on any one item, you can not deduct anything. So, if an item is $3,000 and your limit is $2,500, you can deduct nothing.
Application of De Minimis
A taxpayer electing the safe harbor may deduct and may not capitalize or treat as materials or supplies amounts paid to acquire or produce a unit of tangible property, if
Has, at the beginning of the taxable year, accounting procedures that expense for non-tax purposes amounts that are paid for property that:
• costs less than a certain dollar amount; or
• has an economic useful life of 12 months or less; and
The taxpayer treats the amounts paid for the property as an expense on its books and records in accordance with its accounting procedures.
De Minimis Safe Harbor Election EXAMPLE
In 2019, you do not have an applicable financial statement and you purchase five laptop computers for use in your trade or business. You paid $2,000 each for a total cost of $10,000 and these amounts are substantiated in an invoice.
You had an accounting procedure in place at the beginning of 2019 to expense the cost of tangible property if the property costs $2,000 or less.
You treat each computer as an expense on your books and records for 2019 in accordance with this policy. If you elect the de minimis safe harbor in your tax returns for your 2019 tax year, you can deduct the cost of each $2,000 computer.
There was no AFS, but they did have an Accounting Policy followed for financial purposes.
Cost Recovery of Property
A.K.A DEPRECIATION of Property.
A tax deduction based on the original basis in the property and a predetermined useful life is allowed to recover this lost usefulness as a tax-deductible expense.
This cost recovery is depreciation (or amortization or depletion) and reduces the property’s basis.
5 Requirements for DEPRECIATING property
It must be:
- Owned by the taxpayer;
- Used in a TP’s business or income-producing activity;
- Have a determinable useful life;
- Be expected to last more than one year; and
- Not be excepted (excluded) property.
Basically, Tangible Personal Properties (eg. buildings and structures, etc)
What Defines Excluded Property (List of 6)
LEASED PROPERTY - unless the company retains the incidence of ownership for the property.
PERSONAL USE PROPERTY used solely for personal use activities (residences)
INVESTMENT PROPERTY if the income from it is NOT taxable
INVENTORY - b/c not held for use, but for sale.
LAND, though the cost of getting land ready may be able to be depreciated if connected to another asset.
Internally Generated GOODWILL (IGG), but Acquired Good Will may be able to be depreciated.
The 2 possible Tax Depreciation Systems in the USA.
Accelerated Cost Recovery System - ACRS (used for assets acquired between 1980-1986), or the
Modified Accelerated Cost Recovery System - MACRS (1987-present).
What are the 2 Categories of Property with the depreciation category?
Real property
Personal property
Categories of Real Property for Depreciation
Residential rental property – depreciated straight-line over 27½ years
Nonresidential real estate – depreciated straight-line over 39 years
Personal Property Depreciation Convention
MACRS personal property uses the MID-YEAR Depreciation convention.
Which means that no matter when you buy the asset we will take 6 months of depreciation in the year of acquisition and 6 months of depreciation in the year of disposal.
HOWEVER, If more than 40% of the total cost of property placed into service during the year is placed into service in the last quarter of the year, ALL property is depreciated under the MID-QUARTER convention.
The MID-QUARTER Convention is in place to avoid people buying assets on Dec 30th and taking a full year depreciation.
Real Property Depreciation Convention
Real property uses the mid-month depreciation convention.
Section 179 Deduction - Depreciation
Under Section 179, a company that buys $2,550,000 or less of qualifying property during 2019, may generally choose to expense up to $1,020,000 of the purchased property.
If the amount of property acquired during 2019 is more than $2,550,000, the $1,020,000 amount that may be expensed is reduced dollar-for-dollar for the amount over $2,550,000.
The 179 Deduction can not exceed taxable income. You can’t use it to create a tax loss. But it can be carried forward indefinitely.
Special Depreciation Allowance (also called Bonus Depreciation)
The Tax Code provides a special depreciation allowance for qualified taxpayers and qualified assets.
For 2019, the special depreciation allowance is 100% of the first year’s regular depreciation calculated after subtracting the 179 deduction and certain deductions and credits.
This special depreciation allowance is calculated after the Section 179 deduction and before regular depreciation.
Special Depreciation Property
To be eligible for the special depreciation allowance, the property must be certain qualified property acquired after December 31, 2017 and placed in service before January 1, 2023.
Tangible property depreciated under MACRS with a recovery period of 20 years or less.
Water utility property.
Computer software that is readily available for purchase by the general public, is subject to a nonexclusive license, and has not been substantially modified.
Qualified leasehold improvement property.
Qualified film, television and live theatrical productions.
Qualified reuse and recycling property.
Qualified second-generation biofuel plant property.
Special Depreciation Property - Example
On November 1, 2019, Tom bought and placed in service in his business qualified property that cost $450,000. He did not elect to claim a section 179 deduction. He can deduct 100% of the cost as a special depreciation allowance for 2019.
Depreciation of Passenger Automobiles (cars, trucks, vans, and SUVs weighing 6,000 pounds or less)
If the taxpayer does not claim bonus depreciation, the greatest allowable depreciation deduction for a vehicle placed in service in 2019 is:
$10,100 for the first year,
$16,100 for the second year,
$9,700 for the third year, and
$5,760 for each later taxable year in the recovery period.
Bonus Depreciation for Passenger Automobiles (cars, trucks, vans, and SUVs weighing 6,000 pounds or less)
If a taxpayer claims 100 percent bonus depreciation, the greatest allowable depreciation deduction for a vehicle placed in service in 2019 is:
$18,100 for the first year ($10,100 plus $8,000 bonus depreciation),
$16,100 for the second year,
$9,700 for the third year, and
$5,760 for each later taxable year in the recovery period.
Small Taxpayer Safe Harbor Example:
Assume a taxpayer has annual gross receipts of less than $10 million and owns an office building that was purchased for $750,000. In 2019, the taxpayer pays $5,500 for improvements to the building.
As long as these expenses are no more than the lesser of 2% of the original cost (in this case, $15,000) or $10,000, the taxpayer can immediately deduct all of the costs, regardless of their nature. Because the $5,500 meets these criteria, the small taxpayer safe harbor applies.
Now assume the same facts except that the taxpayer spends $10,500 for costs related to the building during 2019. Since $10,500 exceeds the lesser of 2% of the original cost or $10,000, the small taxpayer safe harbor is not available and the taxpayer must capitalize any expenditures that qualify as improvements.
Why does this make sense? Because we’re talking small potatoes. And the difference between deducting now vs depreciating over a few years is not that big of a difference.
Listed Property
Listed property includes any property of a type generally used for entertainment, recreation, or amusement (including photographic, phonographic, communication, and video recording equipment).
A taxpayer cannot claim a section 179 deduction or a special depreciation allowance if business use of listed property is not more than 50%.
Note: A vehicle with a loaded gross vehicle weight of over 14,000 pounds that is designed to carry cargo is an excepted vehicle that is not listed property
How do you determine if the sale of a business asset is a gain or loss?
In order to determine whether the sale of a business asset resulted in a gain or loss, the seller must calculate whether the amount realized from the sale is greater or less than his adjusted basis in the asset sold. ADJUSTED BASIS is the original basis plus any additions and minus any deductions such as depreciation. In order to determine depreciation, it is necessary to know both the PROPERTY TYPE and the HOLDING PERIOD.
Note: Replacement Cost is not relevant.
Rules for Amortization of Section 197 Intangibles.
Name such Intangibles:
Generally, you may amortize the capitalized costs of section 197 intangibles ratably over a 15-year period. You must amortize these costs if you hold the section 197 intangibles in connection with your trade or business or in an activity engaged in for the production of income.
Section 197 intangibles include:
- trademarks,
- patents,
- goodwill, and
- custom software.
Safe Harbor for Small Taxpayers
A small taxpayer is defined as a taxpayer having average annual gross receipts of no more than $10 million during the preceding three years.
Not required to capitalize expenditures if the total amount expended during the year does not exceed the lesser of $10,000 or 2% of the unadjusted basis of the building.
Realized Gain Calculation
FMV received
Minus Basis Given Up
= Gain Realized
Recognized Gain
The LESSER of:
Realized gain, or
Amount of boot received.
Basis of New Like-Kind Asset (Formula)
KNOW THIS!!!!
Basis of Old Property Exchanged
+ Basis of any BOOT given
+ Gain Recognized
- FMV of BOOT Received
= Basis in the Newly Acquired Property
(NOTE: The basis of the boot received will be its FMV.)
How to calculate the adjusted basis of a new building received in a like-kind exchange.
EXPLANATION
If a taxpayer trades business or investment property for other business or investment property of a like kind, the taxpayer does not pay tax on any gain or deduct any loss until he sells or disposes of the property received. If a taxpayer acquires property in a like-kind exchange, the basis of that property is generally the same as the basis of the property transferred. With the following adjustments:
INCREASE BASIS by the total amount of:
- Additional money paid, including exchange expenses
- FMV of any non-like kind property transferred to other party
- Net liabilities assumed by the taxpayer
- Any gain recognized on the exchange
DECREASE BASIS by the amount of:
- Boot received (ie. money, FMV of non-like kind property, net liabilities other party assumes)
- Any loss recognized on the exchange
What is the earliest date an S Corp status can be reinstated without IRS consent, if an election to terminate is made?
The 5th tax year after the first tax year in which the termination or revocation took effect.
Before then, IRS consent is generally required for another election by the Corp on Form 2553.
Penalties for a C Corp not filing the Due Date
Failure to File – 5% of the unpaid tax for each month that it is late, up to a maximum of 25% of the unpaid tax.
Beginning in 2018, the minimum penalty for a return that is more than 60 days late is: is the smaller of the tax due, or $215 (2019).
When must 1099-DIVs be filed to the IRS and to Recipients?
FYI - Mailed and electronic dates are different.
File Form 1099-DIV with the IRS for each shareholder to whom you have paid dividends and other distributions on stock of $10 or more during a calendar year.
You must generally send Forms 1099-DIV to the IRS with Form 1096 by FEBRUARY 28 (MARCH 31 if filing electronically) of the year following the year of the distribution. Generally, you must furnish
Forms 1099-DIV to shareholders by JANUARY 31 of the year following the close of the calendar year during which the corporation made the distributions.
C Corp Filing Requirements
Form 1120 with either:
M-1 or M-3.
DETAILS
File Form 1120 before the 15th day of the 4th month after the end of it’s tax year.
There is an automatic 6 month extension available for filing, but NOT for paying the taxes.
AND, either an M-1 or M-3 must be filed with Form 1120 to reconcile book and taxable income.
Penalties for a C Corp not filing the Due Date
Failure to File – 5% of the unpaid tax for each month that it is late, up to a maximum of 25% of the unpaid tax.
Beginning in 2018, the minimum penalty for a return that is more than 60 days late is: is the smaller of the tax due, or $215 (2019).
Penalties for a C Corp not paying the Taxes Due on time.
Failure to Pay – one-half of 1% (.005) of the unpaid tax each month.
If both penalties (failure to file AND failure to pay) are in play (late filing and not paid), it is only a maximum of 5%/month charged. This 1/2 of 1% is not added to it.
Reconciliation of Book and Tax Income - REQUIRED FILING
Schedule M-1 of Form 1120 is used as the reporting of the reconciliation between book income and taxable income.
Large and mid-size corporations have to file Schedule M-3. The M-3 is more detailed, and requires that Income and Expense differences be reported separately.
The level of detail in Form M-3 is such that, by filing Schedule M-3, taxpayers may satisfy the requirements of IRS Form 8886 “Reportable Transaction Disclosure Statement.”
True or False?
True.
Personal Holding Company Tax (2nd penalty Tax)
This tax is an additional tax in addition to regular income tax and it is designed to discourage Personal Holding Companies (PHC) from keeping certain types of passive income in the corporation rather than distributing it to the shareholders.
This is a self-assessed tax that the PHC must report by filing Form 1120 PH in addition to Form 1120.
Form 1099-DIV - when must they be furnished?
Acorporation must generally send Forms 1099-DIV to the IRS with Form 1096 by February 28 (March 31 if filing electronically) of the year following the year of the distribution. Generally, a corporation must furnish Forms 1099-DIV to shareholders by January 31 of the year following the close of the calendar year during which the corporation made the distributions. It is necessary to file a Form 1099-DIV with the IRS for each person the corporation:
- Paid dividends (including capital gain dividends) and other distributions on stock of $10 or more,
- Withheld and paid any foreign tax on dividends and other distributions on stock,
- Withheld any federal income tax on dividends under the backup withholding rules, or
- Paid $600 or more as part of a liquidation.
File Form 1099-PATR, Taxable Distributions Received From Cooperatives, for each person to whom the cooperative has paid at least $10 in patronage dividends
Avoiding Delinquent Tax Penalty as a C Corp
The delinquent tax penalty can be avoided if the estimated tax payments are at least equal to the smaller of:
100% of the current year’s final tax liability (the annualized income method), or
100% of the preceding year’s tax (the preceding year method).
Additional Penalty Taxes
In addition to income taxes, corporations may have to pay additional penalty taxes in certain situations.
The two penalty taxes that we will look at are the Accumulated Earnings Tax and Personal Holding Company (PHC) Tax.
Accumulated Earnings Tax (1st penalty Tax)
This is a tax placed on accumulated retained earnings that are greater than the reasonable needs of the business.
Corporations in general may be liable for the accumulated earnings tax and it does not matter how many shareholders the corporation has.
Accumulated Earnings Calculation
To calculate an Accumulated Taxable Income (ATI), corporations are given two deductions from taxable income after federal income tax before the calculation of the penalty tax.
The greater of:
a $250,000 credit ($150,000 for certain types of personal service companies), or
an amount accumulated to meet the reasonable needs of the business, and
A deduction for any dividends paid during the first 2 1/2 months of the next tax year minus the accumulated E&P at the close of the preceding tax year.
The excess of accumulated earnings over these two deductions is taxed at a 20% rate.
Exempt Organizations from the Accumulated Earnings Tax
Exempt Organizations are:
- S Corporations,
- Personal Holding Companies,
- Foreign Personal Holding Companies,
- Tax-exempt organizations and
- Passive Foreign Investment Companies
All are exempt from this tax.
Added to Taxable Income to get to CEP
Tax-exempt income
Capital losses not deducted
Keyman life insurance proceeds
Charitable contributions deduction carried forward
Percentage depletion
Accelerated depreciation greater than the straight-line amount
Deferred gain on installment sale
Intangible drilling costs deducted currently
Mine exploration and development costs
Items Added to Book Income
Federal income tax expense
Excess of capital losses over capital gains
Unearned income (included in taxable income b/c cash has been received, but not yet in Book Income)
Expenses deducted for book purposes, but not tax purposes (including accrued contingent liabilities)
- Premiums on Key-man life insurance policies
- Charitable contributions in excess of 10%
- Business gifts in excess of $25
- Expenses incurred in connection with tax-exempt income
- Depreciation differences resulting from different methods (The Difference is ADDED when the tax depreciation is GREATER THAN Book depreciation.)
- Difference in bad debt deductions
- 50% of meals and entertainment
Items Subtracted from Book Income
Income reported in the books, but not on the tax return:
- Accounts receivable sales
- Life insurance proceeds from policies paid for by the company
- Tax-exempt bond interest
Deductions reported on the Tax Return, but NOT charged to Book Income:
- The dividends received deduction
- Charitable contribution carryovers
- Depreciation differences resulting from different methods (The Difference is SUBTRACTED when the tax depreciation is LESS THAN Book depreciation.)
What are the “Reportable Transactions” that are listed on Form 8886?
Any listed transaction, which are ID’d by the IRS as “Tax Avoidance Transactions”
Any transaction offered under conditions of confidentiality for which the corporation (or a related party) paid an advisor a fee of at least $250,000.
Certain transactions for which the corporation (or related party) has contractual protection against disallowance of tax benefits.
Certain transactions resulting in a loss of at least $10 million in any single year or $20 million in any combination of years.
Any transaction identified by the IRS by notice, regulation, or other published guidance as a “transaction of interest.”
(If the M-3 is properly filled out, then a Form 8886 is not necessary.)
Recognition of Gain with Boot
If the transferors receive something other than stock (called boot), a gain needs to be recognized by the transferor.
The amount of the gain is the difference between the FMV of what was received and the ADJUSTED BASIS of the property that was given up.
ASSUMPTION OF A LIABILITY by the Corp for Property (BOOT) being Contributed.
The ASSUMPTION OF LIABILITIES by a Corp results in a gain for the transferor only if the amount of the liabilities assumed by the Corp is greater than the transferors BASIS in the property that was contributed.
Shareholder’s Basis in Stock
Add the Adjusted Basis of the property transferred
+ Any gain recognized (only if boot was received)
- Any boot received
= Shareholder Basis in Shares Acquired
Corporation’s Basis in Property
Transferor’s adjusted basis
+ Any gain recognized by the transferor
= Corp’s Basis in Property
Earnings and Profit
The process of determining if a dividend is taxable or not taxable.
There are two types of E&P
- Current E and P and (CEP)
- Accumulated E and P. (AEP)
The dividends that are distributed from CEP or AEP are taxable.
Dividends that are not from E & P are considered a Return Of Capital, and is therefore not taxable and REDUCES THE BASIS of the shareholder.
Non E&P Dividends
If the dividend does not come from E&P, the dividend is considered a RETURN OF CAPITAL (non taxable) and reduces the basis of the stock of the shareholder.
You must know how to treat a dividend when there are different situations regarding the balances in current and accumulated E&P. Essentially, to the extent that there is E&P, the dividend is taxable.
Non Cash Distribution to Shareholder
Generally, stock dividends are tax-free to the shareholder.
The corporation treats the distribution of property as if it were a sale. The Corp recognizes a gain in the year of distribution that is equal to the difference of the Basis and the FMV. This gain/loss goes into the CEP to determine if a distribution is taxable or not.
Shareholder Basis in Property
The shareholder’s tax basis for distributed property is the property’s FMV at date of distribution.
It’s NOT reduced by liabilities!
Complete Liquidation for Shareholder
The shareholder will recognize a capital gain or a loss on the transaction to the extent that cash and property received (FMV) is different from their basis in the stock.
Property received will have a basis to the shareholder equal to the FMV of the property.
The value of stock received for services is considered income to the recipient.
True or False?
True.
The term “property” does NOT include “services rendered” to the issuing corporation.
So, the basis of stock received for services is the amount the shareholder includes in income.
If a shareholder performs services in exchange for stock, the control requirement for §351 can be lost! Only shares attributed to the exchange of “property” count toward the control requirement.
The basis of stock received by a shareholder is generally the adjusted basis of the property transferred.
Increase basis by any amount treated as a dividend and by any gain recognized.
Decrease basis by any cash received (other than payment for services), the FMV of any other property received, and any loss recognized on the exchange.
Also decrease basis by liability.
Paid-In-Capital
Contributions to the capital of a corporation, whether or not by shareholders, are Paid-In-Capital.
These are NOT taxable to the corporation.
The basis of property contributed to capital by a person other than a shareholder is $0.
Election to Reduce Basis
In a §351 transaction, if the basis of the property transferred exceeds the property’s FMV (a built-in loss), the parties may irrevocably elect under §362(e)(2)(C) to treat the basis of the stock received by the shareholder as having a basis equal to the FMV of the property transferred.
The basis of the property received by the corporation is the same as the basis the shareholder had in the property.
NOTE: This is the exact OPPOSITE of the general rule.
How do you calculate a Corporation’s basis in property contributed by a shareholder?
A corporation’s basis of property contributed by a shareholder is the same as the basis the shareholder had in the property, increased by any gain the shareholder recognized on the exchange.
NOTE: If by the exchange the Shareholder is in control of the corporation (owns 80% of stock) following the exchange, the basis of the stock received by the shareholder would equal their basis in the property exchanged.
Recognition of Gain with Boot
If the transferors receive something other than stock (called boot), a gain needs to be recognized by the transferor.
The amount of the gain is the difference between the FMV of what was received and the ADJUSTED BASIS of the property that was given up.
§ 351 Exchange
The transfer of property (or money and property) to a corporation in exchange for stock in that corporation (other than nonqualified preferred stock) is usually not taxable if immediately afterward the taxpayer is in control of the corporation.
Note: This type of nontaxable §351 Exchange applies to both individuals and to groups who transfer property to a corp.
Regarding M-1 and M-3 questions, it is important to remember how the item is accounted for book purposes and how that might be different than for tax purposes.
When something is recognized as Revenue on the Income Statement and when something is recognized as Taxable on the Tax Return.
And when an Expense is recognized on the Income Statement, and when an item is going to be deductible for Tax purposes.
C Corp Filing Requirements
Form 1120 with either:
M-1 or M-3.
DETAILS
File Form 1120 before the 15th day of the 4th month after the end of it’s tax year.
There is an automatic 6 month extension available for filing, but NOT for paying the taxes.
AND, either an M-1 or M-3 must be filed with Form 1120 to reconcile book and taxable income.
Reconciliation of Book and Tax Income - REQUIRED FILING
Schedule M-1 of Form 1120 is used as the reporting of the reconciliation between book income and taxable income.
Large and mid-size corporations have to file Schedule M-3. The M-3 is more detailed, and requires that Income and Expense differences be reported separately.
The Tax Cuts and Jobs Act shortens the carryback period for FARMING losses from five years to two years.
The general 2-year net operating loss (NOL) carryback rule does not apply to NOLs arising in tax years ending after December 31, 2017. The taxpayer may carry the loss forward.
NOL may be carried forward indefinitely.
PHC Tax Calculation to get Adjusted Taxable Income (ATI)
Taxable Income \+ Dividend Received Deduction \+ NOL Deduction - Federal and Foreign Income Taxes - Charitable Cont. in excess of 10% limit - Net Capital Loss - Net LT capital gain over net ST capital loss
=
Adjusted Taxable Income
Redemptions and Liquidations
If a corporation buys back its own shares from the shareholders, the transaction is treated like a sale of the shares by the shareholder for tax purposes.
What are the 5 tests to determine if there is a Capital Gain or Loss on a (Sale) Redemption of Stock back to the Corp.
Only 1 of the 5 needs to be met.
The redemption is not essentially a dividend. A.K.A, if, as a result, you are less of a shareholder than you were before because one’s voting power, share in earnings, or the right to share in the distribution of assets has been reduced.
The redemption is disproportionate between shareholders.
All of the shareholder’s stock is redeemed.
The redemption is from a noncorporate shareholder in a partial liquidation.
The redemption is done to pay death taxes.
Partial or Complete Liquidation
In a partial liquidation, the entire gain of the shareholder is recognized as capital gain.
In a complete liquidation of a corporation, all of the corporation’s stock is redeemed.
Complete Liquidation for Shareholder
The shareholder will recognize a capital gain or a loss on the transaction to the extent that cash and property received (FMV) is different from their basis in the stock.
Property received will have a basis to the shareholder equal to the FMV of the property.
Complete Liquidation for Company
Generally, a gain or loss is recognized as if the corporation had sold all of the property to the shareholders at FMV.
S Corp Requirements
There must be:
- Only one class of stock, and the rights to profits, and assets on liquidation must be identical.
- The number of shareholders must not exceed 100,
- A nonresident alien cannot own shares,
- Each shareholder must be either an INDIVIDUAL, an ESTATE or a QUALIFIED TRUST, and
- The corporation must be a domestic corporation and not be a Financial Institution or Insurance Company.
Form 1099-DIV - when must they be furnished?
A Corporation must generally send Forms 1099-DIV to the IRS with Form 1096 by February 28 (March 31 if filing electronically) of the year following the year of the distribution. Generally, a corporation must furnish Forms 1099-DIV to shareholders by January 31 of the year following the close of the calendar year during which the corporation made the distributions. It is necessary to file a Form 1099-DIV with the IRS for each person the corporation:
- Paid dividends (including capital gain dividends) and other distributions on stock of $10 or more,
- Withheld and paid any foreign tax on dividends and other distributions on stock,
- Withheld any federal income tax on dividends under the backup withholding rules, or
- Paid $600 or more as part of a liquidation.
File Form 1099-PATR, Taxable Distributions Received From Cooperatives, for each person to whom the cooperative has paid at least $10 in patronage dividends
Filing Partnership Return
The partnership tax return is due by the 15th day of the 3rd month following the date its tax year ended.
The tax return (Form 1065) is an information return only.
Schedule K is attached to the partnership return and on Schedule K will be the summary of how the partnership reports its taxable items of income, deduction, credit, etc.
Schedule K is then divided into “baby” schedules known as K-1s.
Partner’s Holding Period
The partner’s holding period for the partnership interest is the holding period of the property contributed.
If just money were contributed, the holding period for the partnership interest would be as of the date of contribution.
The rule for a Partner getting a distribution from the Partnership is as follows:
A partner generally recognizes gain on a partnership distribution ONLY to the extent any money (and marketable securities treated as money) included in the distribution EXCEEDS the adjusted basis of the partner’s interest in the partnership. Any gain recognized is generally treated as capital gain from the sale of the partnership interest on the date of the distribution.
If partnership PROPERTY (other than marketable securities treated as money) is distributed to a partner, he or she generally DOESN”T RECOGNIZE ANY GAIN UNTIL the sale or other disposition of the property.
Contribution of Property
When only property is contributed in exchange only for a partnership interest, NO GAIN or LOSS is recognized by the partner or by the partnership.
The basis of the partnership share will be the basis of the property contributed.
If the property is exchanged for a partnership share and something else, then a gain may be recognized.
Calculation of Gain or Loss of the outgoing Owner
During an Ownership Change of a Partnership.
Total of cash, or other property received
+
Partnership liabilities assumed by new partner
-
Old Partner’s basis in the Partnership Interest
=
Total Gain or Loss.
How is this classified? It is based on the sale of Cold and Hot assets.
Partnership Income - Separately Stated Items
These are separately stated because the treatment of these items may be different based on the individual tax situations of each of the individual Partners.
They are:
1. Long-term and short-term capital gains and losses
- Charitable contributions
- Dividends, interest (including tax-exempt) and royalty income
- Section 179 deductions (accelerated depreciation)
- Passive losses from rental activities
- Section 1231 gains and losses
- Unrecaptured Section 1250 gains and losses
- Foreign taxes paid
- Interest expense on investment indebtedness
- Tax-exempt income.
Sale of Partnership Interest
When a partner sells his partnership interest, they may have a capital gain or loss or an ordinary gain.
Cold Assets and Hot Assets
Capital assets are called cold assets.
The sale of cold assets leads to a capital gain or loss.
Unrealized receivables and substantially appreciated inventory are hot assets.
The sale of hot assets leads to an ordinary gain or loss.
Section 751 Property
Also known as HOT ASSETS,
That is Unrealized Receivables and Inventory items.
Income generated from the sale of HOT ASSETS is generally taxed as Ordinary Income (higher), rather than Capital Gain.
NOTE: the basis of Unrealized Receivables is $0 for partnerships using CASH METHOD accounting.
Organization and Syndication Costs
Organization costs are those costs to actually establish the existence of the partnership.
Attorney’s Fees
Filing Costs
Etc
Up to $5,000 of organization costs may be deducted in the year incurred (this deduction is phased out by $1 for each $1 of organizational costs in excess of $50,000).
Any remaining organizational costs must be capitalized and amortized over 15 years (180 months).
Syndication costs are those costs associated with selling the partnership interests to partners.
These are not deductible for federal income tax purposes at all.
Organization and Syndication Costs
Organization costs are those costs to actually establish the existence of the partnership.
Attorney’s Fees
Filing Costs
Etc
Up to $5,000 of organization costs may be deducted in the year incurred (this deduction is phased out by $1 for each $1 of organizational costs in excess of $50,000).
Any remaining organizational costs must be capitalized and amortized over 15 years (180 months).
Syndication costs are those costs associated with selling the partnership interests to partners.
These are not deductible for federal income tax purposes at all.
Initial Basis of a Partner
The initial basis that the partner will have and the how it will be recorded depends on what the partner contributed to the partnership in return for their partnership share.
The basis is usually valued at what was contributed.
New Partner’s Basis
The new partner’s basis in the partnership will be equal to the fair value of any money or property that is paid for their share.
This amount will be increased for any liabilities of the partnership assumed by the new partner, and decreased by any liabilities of the new partner that are assumed by the partnership.
Contribution of Services and Property
The basis of the partnership interest should equal the FMV of partnership share received minus any gain on the sale of assets (adjusted basis to the partner minus the fair market value at the time of contribution).
Assumption of Partnership Liabilities
The entering partner assumes a portion of the existing partnership liabilities.
The partnership assumes a portion of the new partner’s personal liabilities that are transferred to the partnership.
This will in effect decrease the partner’s basis. BUT, the basis CAN NOT be reduced below ZERO. You can not have a negative basis in a Partnership.
On joining a Partnership, a new Partner does not assume any of the pre-existing liabilities of the Partnership. However, they will be responsible for any liabilities incurred after they become a Partner.
So, the new Partner may assume a portion of the liabilities that the Partnership took from the new Partner. For example, if the new Partner contributed property with a loan, they will have to take a portion of that loan liability right back.
What happens when there is a GAIN on Entrance of a Partner, by the Partner?
When the entering partner is relieved of more liabilities than the basis of the property he or she contributes, and only if this happens, the entering partner will have taxable gain on their admission to the partnership.
Calculating the Entering Partner’s Basis in the Partnership.
Money contributed
+
The adjusted basis of any property contributed
−
Any of the new partner’s personal liabilities assumed by the partnership
+
The new partner’s share of any partnership liabilities. (ie. a portion of the liability the new Partner gave to the Partnership)
+
Gain recognized by the entering partner (ONLY if they are relieved of liabilities greater than their basis in the contributed property)
=
Partner’s basis in the partnership
Holding Periods and Partnership’s Basis in Property Contributed
The partnership’s basis in the asset (property) contributed is equal to the basis of the partner in the asset plus any gain recognized by the partner on the transfer. Its holding period is that of the partner’s.
Partner’s Adjusted Basis
Generally, the income that flows to the individual partners will increase the partner’s basis in the partnership.
Each item that flows through to the partner that represents a deduction or loss will decrease the partner’s basis.
Partner’s Treatment of Loss
A partner can only recognize loss to the extent that they have positive basis. The basis CANNOT BE REDUCED BELOW ZERO.
If a partner cannot recognize the current year loss items for any reason (including that their basis is smaller than the losses), the excess losses are carried forward waiting for additional basis in the future so that they can be deducted against future profit.
Other Impacts on Partner’s Basis
Money and property contributed to the partnership by the partner and money and property distributed to the partner also increase, and decrease, respectively, the partner’s basis in the partnership.
Additionally, a partner’s basis includes the partner’s share of the partnership’s liabilities.
Impact of Liabilities on Basis
An increase in the liabilities of the partnership increases the individual partners’ basis based on their ratio of sharing profits and losses.
A decrease in the liabilities of the partnership decreases the individual partners’ basis.
Contribution of Property
When only property is contributed in exchange only for a partnership interest, NO GAIN or LOSS is recognized by the partner or by the partnership.
The basis of the partnership share will be the basis of the property contributed.
If the property is exchanged for a partnership share and something else, then a gain may be recognized.
Section 751 Property
Also known as HOT ASSETS,
That is Unrealized Receivables and Inventory items.
Income generated from the sale of HOT ASSETS is generally taxed as Ordinary Income (higher), rather than Capital Gain.
NOTE: the basis of Unrealized Receivables is $0 for partnerships using CASH METHOD accounting.
Define Substantially Appreciated Inventory
Substantially Appreciated Inventory is inventory that, at the time of the distribution, has a FMV that is more than 120% of the partnership’s adjusted basis for the property.
Non-Liquidating Distributions
Normally the partner should recognize no gain or loss on the distribution of money or other property by the partnership.
This is accomplished by using any other asset that is distributed as the “balancing amount” and valuing it so as to avoid gain/loss.
The partner will recognize a gain only if the cash distributed exceeds the partner’s adjusted basis in his partnership interest.
Gain on Liquidating Distribution
In a liquidating distribution, the partner will recognize a gain only if the distribution of money exceeds the basis in the partnership.
Any property that is distributed will have a basis to the partner that is equal to the partner’s adjusted basis in the partnership minus the value of any money received in the distribution.
Loss on Liquidating Distribution
A partner recognizes a loss ONLY if the assets distributed in the liquidation are comprised only of money, unrealized receivables or inventory.
The loss is the partner’s basis minus the partnerships’ basis in money, unrealized receivables and inventory that are distributed to the partner.
However, if other property is involved, then we play around with the basis of that property to avoid gain or loss.
403(b) Plan
also known as a tax-sheltered annuity (TSA) plan, is a retirement plan for certain employees of public schools, employees of certain tax-exempt organizations, and certain ministers.
Not for the Self-Employed individual.
Date Range when a SIMPLE IRA can be set up by an employee
Jan 1 - Oct 1
Establishing a SEP Plan
Needs to be set up by the employer by the due date of the Income Tax Return for that year. (Extensions NOT included)
- A formal written agreement must be executed. This can be satisfied by adopting the IRS model SEP using Form 5305-SEP
- Each eligible employee must receive info about the SEP.
- A SEP-IRA must be set up for each eligible employee.
SIMPLE Plan Election Period
60-days immediately preceding Jan 1.
This is adjusted if the plan is established mid-year.
SIMPLE Plan Example:
Olivia’s annual salary is $50,000 and she starts contributing to her employer’s SIMPLE IRA plan on Sept 1. She contributes $1536 through December 31.
Olivia’s employer MUST match her contributions up to 3% of Olivia’s calendar-year compensation, or $1,500 (3% of $50,000). It doesn’t matter that Bob only contributed to the plan during the last 4 months of the calendar year.
The more you know!
Excludable Employees from a SEP or SIMPLE plan
Employers are NOT required to cover the following employees under a SIMPLE or SEP IRA plan:
- Employees who are covered by a union agreements and whose retirement benefits were bargained for in good faith by the employer’s union and employer.
- Nonresident alien employees who have received no U.S. source wages, salaries, or other personal services compensation from employer.
Annual Compensation Limit
The maximum amount of compensation the employer may consider when determining contributions and benefits for an employee in 2019 is:
$280,000.
This limit also applies to non-salary-deferral contributions to a 403(b) plan and a SEP IRA.
LOANS
Loans are NOT permitted from IRA’s or from IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRA plans.
Loans are only possible from qualified plans that satisfy the requirements of §401(a), from annuity plans that satisfy the requirements of §403(a) or 403(b), and from governmental plans. (Code §72(p)(4); Reg. §1.72(p)-1, Q&A-2)
SEP-IRA
Simplified Employee Pension - Individual Retirement Arrangement
a simplified method for employers to contribute to a retirement plan for themselves and employees.
Under SEP, and employer can contribute to a traditional IRA (SEP-IRA) for each employee.
A SEP can NOT be a Roth IRA.
A SEP-IRA is one the employee owns and controls.
The employer contributes directly to the financial institution that maintains the SEP-IRA.
Establishing a SEP Plan
Needs to be set up by the employer by the due date of the Income Tax Return for that year. (Extensions NOT included)
- A formal written agreement must be executed. This can be satisfied by adopting the IRS model SEP using Form 5305-SEP
- Each eligible employee must receive info about the SEP.
- A SEP-IRA must be set up for each eligible employee.
SEP-IRA Eligible Employee Requirements
- 21 years or older
- Employee has worked in at least 3 of the last 5 years.
- Employee has received at least $600 in compensation from the employer in 2019.
SEP-IRA Contributions
Employees CAN NOT contribute to a SEP IRA.
Annual employer contributions are NOT mandatory.
All contributions must be based on a WRITTEN Allocation Formula and must not discriminate in favor of HCEs.
Contributions must be made to ALL participants who actually performed personal services during the year. This includes employees who DIE or who TERMINATE EMPLOYMENT before contributions are made.
Contributions are made as a percentage of each employee’s compensation. The percentage MUST be the same for all employees.
Self-Employed TP contributions
A Self-Employed TP can contribute to a SEP-IRA established on his own behalf.
Contributions MUSt be in the form of money, not property.
Employer Contribution limitation to SEP-IRAs for 2019
Contributions can NOT exceed the lower of 25% of the employee’s compensation or $56K.
Compensation generally does not include the employer’s contributions to the SEP.
Self-Employed Compensation - Special Computation
The deduction for contributions to the SEP-IRA and net earnings depend on each other.
The deduction for contributions to the TPs SEP-IRA is determined by reducing the contribution rate called for by the plan.
The formula to determine Contribution Percentage is rate/(1+rate).
Figuring the deduction made to one’s own SEP-IRA
Compensation is net earnings from Self-Employment (provided that personal services are a material income-productin factor), reduced by the total of:
- The deduction for the deductible part of Self-Employment tax.
- The deduction for contributions to his own SEP-IRA.
Calculate Net Earnings for SEP and qualified plans
Net Earnings from SE is:
Gross Income from business (provided personal services are a material income-producing factor)
MINUS - allowable business deductions (including contributions to SEP for common law employees)
MINUS - the deduction allowed for the deductible part of S-E tax.
Net Earnings do include Foreign Earned Income and Foreign Housing Costs, which are included in Gross Income as well.
Net Earnings include a partner’s distributive share of partnership Income/Loss.
It does NOT include pass-through income to shareholders of S Corps.
Guaranteed Payments to limited partners are NET EARNINGS from S-E if they are paid for services to or for the partnership.
However, distributions of other income or loss to limited partners are NOT earnings from S-E.
An employer CAN NOT consider the part of an employee’s comp above the 2019 ACL (Annual Compensation Limit) of $280,000 when figuring the contribution limit for an employee.
However, $56,000 in 2019 is the MAX contribution for eligible employees under §415(c)(1)(A).
Excess contributions are included in the employee’s income for the year and are treated as contributions by the employee to his SEP-IRA.
SEP contributions are NOT included on an employee’s Form W-2 unless contributions were made under a Salary Reduction arrangement.
Additionally, if the employer maintains another Defined Contribution plan for employees, the Annual Additions to an account are limited to the lesser of:
$56,000
OR
100% of the participants compensation.
Because a SEP is considered a defined contribution plan for this limit, employer contributions to a SEP must be added to employer contributions to other defined contribution plans. Contributions are 100% immediately vested to the employee.
Catch-up Contribution
A plan can permit participants who are age 50 or older at the end of the calendar year to make catch-up contributions in addition to elective deferrals and SIMPLE plan salary reduction constributions.
- The 2019 catch-up contributions limitation for defined contribution plans OTHER than SIMPLE plans is $6,000.
- The catch-up contribution limitation for SIMPLE plans is $3,000 for 2019.
SIMPLE
Savings Incentive Match Plan for Employees (SIMPLE IRA)
SIMPLE Plan Qualifying Requirements
- 100 or fewer employees
- $5,000 or more employee income
No other Qualified Plans are allowed unless for Union employees (collective bargaining).
SIMPLE IRA must be maintained for at least 2 years from initial contribution, or the additional tax is…
A 25% additional tax of the amount distributed is applied, from the 10% penalty is simply distributed early.
2 Types of SIMPLE Plans
SIMPLE IRA
SIMPLE 401(k)
A SIMPLE Plan can NOT be a Roth IRA.
NOTE: Unlike the SIMPLE IRA, the SIMPLE 401(K) is a QUALIFIED plan.
SIMPLE Plan Election Period
60-days immediately preceding Jan 1.
This is adjusted if the plan is established mid-year.
A written plan is required to establish a SIMPLE 401(k) or a SIMPLE IRA.
Note: A SIMPLE IRA may opt to use an IRS Model Plan Doc
Form 5304-SIMPLE - employee choice of financial institution
Form 5305-SIMPLE - employer initially designates financial institution.
SIMPLE PLAN Eligibility Requirements
An employee must have received at least $5,000 in compensation during any 2 years preceding the current calendar year, and who can expect to receive $5,000 in the current calendar year.
Employers may use less restrictive requirements if they want to.
SIMPLE PLAN Contribution Limits
Employees - $13,000 in 2019, through salary reductions. It must be a percentage of their compensation.
Max - 100% of compensation up to the dollar limit.
SIMPLE PLAN Contribution Limits with Multiple Plans
An employee participating in multiple SIMPLE IRAs can contribute up to $19,000 to all the plans, with Elective Salary Reductions.
How SIMPLE IRA contributions are Taxed
An employer deducts contributions for employees on its tax return, and employees can exclude these contributions from their gross income.
HOWEVER, salary reduction contributions are subject to FICA and Federal Unemployment (FUTA) taxes.
Matching and non elective contributions are NOT subject to these taxes. Contributions are not subject to Federal Income Tax withholding.
SIMPLE Plan deductions “Tip” for Sole Proprietors and Partners
A sole proprietor or partner CANNOT deduct contributions made to a retirement plan for himself as a business expense, only those made for his common-law employees.
Sole Proprietors and Partners deduct contributions on Form 1040.
DNI (Distributable Net Income)
The net Tax-Exempt Income and net Taxable Income (without considering capital gains, personal exemption, or the distribution deduction).
To determine the Pro-Rata amount of indirect expenses, DIVIDE the total amount of indirect expenses (including expenses allocated to principal) by the income available for DNI from both taxable and non-taxable income sources.
Vehicle Deductions
The Standard Mileage Rate is NOT allowed if you own 5 or more cars.
In that case you must use actual expenses rather than the Standard Mileage Rate.
Partnership Interest exchanges do NOT count as a Like-Kind exchange and is therefore taxable.
Non-taxable Like-Kind Exchanges include:
- transfers of property INCIDENT TO DIVORCE
- Life Insurance into an Annuity Contract
Organizational Expenditures that can be amortized do NOT include costs associated with the issuance of stock
Such as Commissions to investment banker for an initial public offering of stock.
1099-DIVs are required to be filed by Payers when:
- Paid dividends and other distributions on stock of $10 or more during the calendar year
- Withheld and paid foreign tax on dividends and other distributions on stock
- Withheld any federal income tax on dividends under the backup withholding rules
- Paid $600 or more as part of a liquidation
Form 1065 late filing penalty
$205 for each MONTH (or partial month) for a max of 12 months, multiplied by the total number of partners.
No penalty will be due if the partnership show that the late filing was due to reasonable cause.
401(k) contributions can include CASH or ELECTIVE DEFERRAL.
An Elective Deferral is when an employer contributes part of a participants pre-tax compensation.
It’s called an Elective Deferral because the participants choose (elect) to defer receipt of the money.
401(k) contributions can include CASH or ELECTIVE DEFERRAL.
An Elective Deferral is when an employer contributes part of a participants pre-tax compensation.
It’s called an Elective Deferral because the participants choose (elect) to defer receipt of the money.
SEP Contributions cannot not exceed the lesser of 25% of the employee’s compensation or $56,000 (2019).
Compensation generally does NOT include your contributions to the SEP.
When a depreciated business asset is sold, the lesser of the gain or the depreciation allowed or allowable is treated as ordinary income pursuant to Either Sec 1245 or Sec 1250 depending on the kind of asset.
Note: Any gain recognized that is more than the part that is ordinary income from depreciation is a Section 1231 gain.
Property Distributions (including cash) first reduce the AAA account, then distributions are made from AEP
The full distribution order is:
- Reduce AAA (Accumulated Adjustment Account)
- Reduce Shareholders’ PTI Account (Previously Taxed Income)
- Reduce Accumulated E&P (AEP)
- Reduce OAA (Other Adjustment Account)
- Reduce any remaining shareholders’ equity account.
Cash distributions are not added to book income when arriving at Taxable Income.
- Cap losses are limited to capital gains
- Meals are limited to 50% of total
- Entertainment is not deductible for tax purposes
- Fed Income Taxes are NOT deductible for tax purposes
- Tax-exempt interest income is not taxable.
Form 4797, part II
Used by TPs for reporting Ordinary Gains and Losses on the sale of business property. This is part of Ordinary Business Income (loss) and is NOT stated separately
Sale of livestock should be recorded on Form 4797.
SIMPLE Plan Contributions
$13,000
$3000 catch up
Matching by the employer is Matching Dollar-for-Dollar up to 3% of the employee’s compensation.
An ESTATE receives an exemption deduction of $600 when figuring it’s taxable income.
Add up income, subtract fees + $600 exemption to find taxable income.
Corps with a Fiscal year ending in June have a filing deadline that is a month less and an extension that is a month more.
File by Sept 15
Extension to April 15 - Requested on Form 7704
Businesses taxed as Corps (formed after 1996) are:
A business formed under fed or state law that refers to it as a Corp
A business formed under state law that refers to is as a joint-stock company or joint-stock association
An insurance company
Certain banks
A business wholly owned by a state or local government
A business specifically required to be taxed as a Corp by the IRC
Certain foreign businesses
Any other business that elects to be taxed as a copr.
Businesses taxed as Corps (formed after 1996) are:
A business formed under fed or state law that refers to it as a Corp
A business formed under state law that refers to is as a joint-stock company or joint-stock association
An insurance company
Certain banks
A business wholly owned by a state or local government
A business specifically required to be taxed as a Corp by the IRC
Certain foreign businesses
Any other business that elects to be taxed as a corp.
Calculate Current Earnings and Profit
Taxable Income Minus Taxes Paid Minus non-deductible expenses Minus Cap Loss or Add Cap Gain
