CH. 22 - S Corporations

Question 1

S corporation

Answer 1

a corporation under state law that has elected to be taxed under the rules provided in Subchapter S of the Internal ­Revenue Code. Under Subchapter S, an S corporation is taxed as a ­flow-through entity.

Aka sort of like a hybrid between a C corporation and a partnership

Question 2

Earnings and profits (E&P)

Answer 2

a measure of a corporation’s earnings that is similar to its economic earnings. Corporate dividends are taxable to shareholders to the extent they come from earnings and profits.

Question 3

What are the key facts to S Corporations Qualification Requirements?

Answer 3

-Only U.S. citizens or residents, eestates, certain trusts, and certain tax-exempt organizations may be S corporation shareholders
-S corporations may have no more than 100 shareholders
-For purposes of the 100-shareholder limit, family members and their estates count as only one shareholder

Question 4

What are the key facts to S Corporation Election?

Answer 4

-An eligible corporation must make an affirmative election to be treated as a S corporation
-Eligible corporations meet the type and number of shareholder requirements, are domestic corporations for tax purposes, are not specifically identified as ineligible corporations, and have only one class of stock.
-To elect S corporation status, the corporation makes a formal election using Form 2553

Question 5

Form 2553

Answer 5

the form filed to elect S corporation status.

Question 6

True or false” NOLs attributable to a C corporation year can be carried forward to the S corporation

Answer 6

False; they cannot

Question 7

If an S corporation has earnings and profits from previous C corporation year (or through a tax-deferred reorganization with a corporation that has earnings and profits), its election is terminated if the S corporation has ________ investment income in excess of…..

Answer 7

passive income in excess of 25% of gross receipts for three consecutive years

Question 8

Gross receipts

Answer 8

(for S corporations) the total amount of revenues (including passive investment income) received or accrued under the corporation’s accounting method, not reduced by returns, allowances, cost of goods sold, or ­deductions. Gross receipts include net capital gains from the sales or ­exchanges of capital assets and gains from the sale or exchange of stock or securities (losses do not offset gains).

Question 9

Passive investment income (PII)

Answer 9

royalties, rents, dividends, interest (including tax-exempt interest), annuities, and gains from the sale or ­exchange of stock or securities.

Question 10

While net capital gain income is included in gross receipts, it is not considered passive investment income

Answer 10

True!

Question 11

S corporation election terminations due to excess passive investment income are effective…..

Answer 11

on the first day of the year following the third consecutive tax year with excess passive investment income.

Question 12

What are the key facts of S Corporation Terminations & Relections?

Answer 12

-The S election may be revoked by shareholders holding more than 50% of the S corporation’s stock (including non-voting shares)
-A corporation’s S election is automatically terminated if (1) the S corporation fails to meet the S corporation requirements or (2) the S corporation has earnings and profits from a previous C corporation year and has passive investment in come in excess of 25% of gross receipts for three consecutive years
-A corporation losing its S corporation status must wait until the beginning of the fifth year after the election is terminated to elect the S corporation status again

Question 13

What are the key facts to operating issues?

Answer 13

-S corporations are generally required to adopt a calendar tax year
-S corporations allocate profits and losses to shareholders pro rata, based on the number of outstanding shares each shareholder owns on each day of the tax year
-S corporations determine each shareholder’s share of ordinary business income (loss) and separately stated items
-Ordinary business income (loss) is all income (loss) exclusive of any separately stated items of income (loss) for tax purposes

Question 14

Ordinary business income (loss)

Answer 14

a partnership’s or S corporation’s remaining income or loss after separately stated items are removed. It is also referred to as nonseparately stated income (loss).

Question 15

Separately stated items

Answer 15

income, expenses, gains, losses, credits, and other items that are excluded from a partnership’s or S corporation’s ­operating income (loss) and disclosed to partners in a partnership or shareholders of an S corporation separately because their tax effects may be different for each partner or shareholder.

Question 16

The character of each separately stated item is determined at the __________ level rather than at the __________ level

Answer 16

The character of each separately stated item is determined at the S corporation level rather than at the shareholder level

Question 17

S corporation shareholders are allowed a ______% deduction for 199A qualified business income, calculated and subject to limitations are the shareholder level.

Answer 17

S corporation shareholders are allowed a 20% deduction for 199A qualified business income, calculated and subject to limitations are the shareholder level.

Question 18

What are examples of common separately stated items for S corporations?

Answer 18

-Short-term capital gains and losses
-Long-term capital gains and losses
-1231 gains and losses
-Dividends
-Interest income
-Charitable contributions
-Tax-exempt income
-net rental real estate income
-Investment interest expense
-179 deduction
-foreign taxes
-199A qualified business income, allocated wages, and unadjusted basis of qualified property (included in a statement attached to Schedule K-1)

Question 19

S corporations (are/are not) entitled to claim the dividends-received deduction that is available to C corporations

Answer 19

are not

Question 20

A shareholders basis in stock received when setting up an S corporation equals….

Answer 20

the tax basis of the property transferred less any liabilities assumed by the corporation on the property (substituted basis). The shareholders stock basis is increased by any gains recognized; it is reduced by the FMV of any property received other than stock.

Question 21

If a shareholder purchases S corporation stock from another shareholder or the corporation, the new shareholders basis is….

Answer 21

simply the purchase price of the stock.

Question 22

What are they key facts on S corporation shareholder’s basis adjustments?

Answer 22

-A shareholder will increase the tax basis in the stock for:
–capital contributions
–share of ordinary business income
–separately stated income/gain items
–tax-exempt income
-A shareholder will decrease the tax basis in their stock for:
–cash distributions
–share of nondeductible expenses
–share of ordinary business loss
–separately stated expense/loss items
-A shareholder’s tax basis may not be negative

Question 23

True or false: an S corporation’s shareholder’s stock basis must be adjusted annually

Answer 23

True!

This is so taxable income/gains and deductible expenses/losses are not double-counted by shareholders either when they sell their shares or when they receive dividends S corporation distributions, and so tax-exempt income and nondeductible expenses are not ultimately taxed or deducted.

Question 24

True or false: S corporation shareholders are allowed to include S corporation debt in their stock basis

Answer 24

False–they are not

(but partners in partnerships are allowed to)

Question 25

For an S corporation shareholder to deduct a loss, the loss must clear how many separate hurdles? What are they?

Answer 25

3

1. Tax basis
2. At-risk amount’
3. Passive activity

Question 26

S corporation shareholders (may/may not) deduct losses in excess of their stock basis

Answer 26

may not

Question 27

Debt basis

Answer 27

the outstanding principal of direct loans from an S corporation shareholder to the S corporation. Once taxpayers deduct losses to the extent of their stock basis, they may deduct losses to the extent of their debt basis. When the debt basis has been reduced by losses, it is restored by income/gain allocations.

Question 28

What are the key facts to loss limitations for S corporations?

Answer 28

-S corporation losses in excess of a shareholder’s tax basis and at-risk amount are suspended are carried forward until additional basis and amounts at risk are created.
-Upon S election termination, shareholders may create additional stock basis during the post-termination transition period to utilize losses limited by the basis or at-risk rules.
-The passive activity loss rules limit the ability of S corporation shareholders to deduct losses of the S corporation unless the shareholders are actively managing the business

Question 29

At-risk amount

Answer 29

an investor’s risk of loss in a worst-case scenario. In a partnership, an amount generally equal to a partner’s tax basis exclusive of the partner’s share of nonrecourse debt.

Question 30

Post-termination transition period (PTTP)

Answer 30

the period that begins on the day after the last day of a corporation’s last taxable year as an S corporation and generally ends on the later of (a) one year after the last S corporation day or (b) the due date for filing the return for the last year as an S corporation (including extensions).

Question 31

Passive activity loss (PAL) rules

Answer 31

tax rules designed to limit taxpayers’ ability to deduct losses from activities in which they don’t materially participate against income from other sources.

Question 32

Excess business loss

Answer 32

excess of aggregate business deductions for the year over aggregate business gross income or gain of an individual ­taxpayer plus a threshold amount depending on filing status.

Question 33

Is an S corporations’ shareholder’s allocable share of ordinary business income/loss classified as self-employment income for tax purposes?

Answer 33

No, not even when the shareholder actively works for the S corporation

Question 34

What are the key facts for cash operating distributions for S corporations?

Answer 34

-For S corporations without E&P: distributions are nontaxable to the extent of the shareholders stock basis. If a distribution exceeds the shareholders stock basis, the shareholder has a capital gain equal o the excess distribution amount.
-For S corporations with E&P: distributions re deemed to be paid from (1) the AAA (nontaxable to the extent of basis and taxed as capital gain thereafter), (2) existing accumulated E&P (taxable as dividends) and (3) the shareholders remaining basis in the S corporation stock, if any (nontaxable to the extent of basis and taxed as capital gain thereafter).

Question 35

Accumulated adjustments account (AAA)

Answer 35

an account that reflects the cumulative income or loss for the time the corporation has been an S corporation.