Federal Taxation Of Entities

Question 1

Corp Formation:

What are the rules for section 351?

Answer 1

Section 351 applies if the individual(s) receive at least 80% of the common or preferred stock from the company in exchange for property(can include cash). And upon the formation of a corporation.

If the 80% rules do apply, then no gain or loss is recognized by the individual unless boot is received by them. Or if liability given > basis, then gain = liability - basis

Company basis: shareholder basis + gain recognized by shareholder

Shareholder basis = basis of all property given to Corp + gain - boot received - liability transferred to Corp

Individual holding period:
Capital or 1231 assets given, holding period tacks on.
Any other asset does not tack on

Corp holding period: property always has holding period shareholder had

If the 80% rule doesn’t apply then the person who transferred property will be taxed on his realized gain and the company will Have a basis of the FMV of the property it received. If services were provided for stock it would be ordinary gain.

Question 2

What are the NOL rules?

Answer 2

Losses between 2018 and 2020, can be carried back 5 years. There is no limitation to offsetting in carry forward years.

Question 3

What are the corp. charitable contribution rules?

Example: a Corp had charitable contribution of 65k, revenue of 300k, operating expenses of 175k and a DRD of 25k. What is the allowable cc deduction?

Answer 3

limited to 25% of taxable income, gross of any charitable deduction, NOLs or DRD. Excess is carried forward 5 years.

Example: Taxable income: 300,000 - 175,000 = 125,000
125,000 x 25% = 31,250 deduction

33,750 is carried forward up to 5 years.

Question 4

What is the limit that a company can elect to treat a cost as an expense rather than a capital expenditure? If a company had a machine cost of 2,600,000?

Answer 4

1. ) the limit is 1,040,000 and it is reduces dollar for dollar for any amount over 2,590,000.
2. ) 2,600,000 - 2,590,000= 10,000

1,040,000 - 10,000= 1,030,000

Question 5

Cost of organizing a corporation can be deducted if the costs do not exceed?

Answer 5

5,000 per category organizational and start-up. After 50k it is reduces dollar for dollar.

Example if a Corp has 52,000 in organizational expenses in July, then 3,000 (5,000- (50 limit - 52)) is expensed and 49,000 is amortized over 180

So for the first year 3,000 is expensed plus

49,000 x 6/180 = 1633 also expensed in first year

Question 6

How does a corporate distributee report a dividend when property is issued?

Answer 6

FMV - mortgage assumed

Question 7

Is a gain or loss recognized on a nonliquidating Corp distribution?

Answer 7

A gain is but a loss is not

Question 8

Is a loss disallowed if incurred in a transaction between a 50% owner in a partnership is involved and the other partner is the sister?

Answer 8

Yes because than it can be construed that each sister owns 100% and any partner owning more than 50% can not claim losses. A loss is disallowed on a transaction with a owner who owns more than 50%

Question 9

Can a loss be recognized on the distribution of property in a complete liquidation?

Answer 9

Yes

Question 10

What rules classify a personal holding company?

Answer 10

Stock test: requires more than 50% of stock be owned by 5 people or less

Income test

Question 11

What is a c Corp that elects s status built in gain for the sale of an asset, used to compute tax liability?

Answer 11

FMV- basis

Question 12

Does self employment tax cover ordinary income from an s Corp?

Answer 12

No, but it would cover ordinary income from a partnership or loss from a trade or business.

Question 13

Investors want to buy and renovate a historic building. Cost is 2 million and renovation is 2.5 million. Discount factor is 3.546. What is the after tax cost?

Answer 13

2,500,000 get a renovation credit of 20%. Which is 500,000 divided into next five years. Present value of credit is 100,000 x 3.546 = 354,600 + 100,000(current yr credit)= 454,600 in credits.

4,500,000- 454,6000= 4,045,400

Question 14

What are the rules for a dividend received deduction?

Example: Corp has ops income of 460,000, ops expenses of 480,000 and dividend income of 340,000 (less than 20% ownership). What is taxable income? what is the DRD?

Answer 14

A foreign dividend may qualify. S corps, personal service and personal holding companies do not.

If a Corp owns less than 20% the deduction is 50% of the dividend. If it owns between 20 - 79 then it is 65% of dividend 80% or more is a 100% deduction.

Example: Taxable income: 460-480+340= 320

DRD:

1. ) 340 x 50% (less than 20% ownership)= 170,000
2. ) 320,000 x 50% (same as step 1)= 160,000
3. ) lessor of step 1 or 2= 160,000

If step 1 creates an NOL than the full 340 is deductable

Question 15

Partnership problem 1:
Lily and betty formed a partnership on 3/09/19, each owning 50% in general interest. Lily contributed cash of 22k and equipment of 4k in FMV with a 3k basis. The equipment also has a liability attachment of 1k, which the partnership will assume. Betty contributes management services worth 15k and cash of 10k. What are the effects of formation? what are the partners outside basis?

Answer 15

Initial contribution
1.) Formation of partnership is a non taxable event. Lily’s basis: 22,000 + 3,000 + 500 (liability reduction) = 24,5000

2.) Betty’s Basis: 10,000 + 15,000 (mgmt service- taxable) + 500 = 25,500

Question 16

Partnership problem 1a:
Assume lily and betty’s partnership has ordinary business income of 8k, interest income of 500, and equipment liability is now 800 for end of 2019. What are the partners outside basis?

Answer 16

Lily’s basis: 4,000 + 250 - 100* = 4,150 + 24,500 (previous basis) = 28,650

Betty’s basis: 4,000 + 250 - 100* = 4,150 + 25,500 = 29,650

*Liability dropped from 1K to 800

Question 17

Partnership problem 1b:
Assume lily and betty’s partnership has ordinary business loss of 25k, interest income of 600, equipment liability is now 600 for tax year 2020. Lily also took a distribution of 18,500. What are the outside basis?

Answer 17

1.) Lily’s basis: 300* - 100 - 18,500= (18,300) + 28,650 = 10,350

Betty’s basis: 300* - 100= 200 + 29,650 = 29,850

positive items first
2.) look at loss
Lily’s basis: 10,350 - 10,350= 0
Betty’s basis: 29,850 - 12,500 (half)= 17,350

*in a partnership a basis can’t go below 0. Her suspended loss would be the remainder. 2,150

Question 18

What are the differences between the 3 types of partnerships?

Answer 18

General partnership: all partners are responsible for the liabilities

Limited partnership: partners can only lose up to the amount they invested. must have at least one general partner (responsible for all liabilities), who is also in charge of day to day ops.

Limited liability partnership: general business debt (AR, NP, mort. debt) is divided among every partner. Any malpractice is only liable to the partner being sued.

Question 19

for a corporation, what are the capital losses rules?

Answer 19

They can only offset capital gains and not income. The remainder is carried back 3 years and forward 5.

Question 20

What items are added or subtracted in the M-1 schedule?
1. ) Federal tax expense, Net capital loss, expenses in excess of limits

2. )Prepaid income excluded in TI
3. )Municipal interest, life insurance proceeds
4. ) DRDs

Answer 20

Permanent: entertainment expenses, fines and penalties
Temporary: accrual of prepaid income, depreciation (different methods).

1. are nondeductible expense and are added to book income
2. are items taxable not included in book income. these are added
3. Non taxable items included in Book income are subtracted
4. deductions not expensed in book income are subtracted.

Question 21

Who uses schedule M-3?

Answer 21

Corps with assets of more than 10 mil.

Question 22

What are the four scenarios of both current and accumulated E&P?

Answer 22

1. ) Negative current and accumulated: Distribution is tax free up to basis, excess is capital gain.
2. ) Positive current and accumulated: Distrbution is taxable dividend. Reduce Current first
3. ) Positive current and negative accumulated: Distribution is dividend to extent of positive current
4. ) Negative current and positive accumulated: Distribution is dividend to extent of net E&P on date of distribution.

Question 23

Corp distribution:

How is a distribution classified?

Answer 23

If both accumulated and current E&P are positive then the distribution is a dividend up to the amount of accumulated and current. Then the basis is reduced. If there is anymore distribution that is capital gain. LT or ST depends on how long stocks were held by individual

Question 24

Corporation distributions:
A Corp has a negative accumulated E&P of 120k and a positive current E&P of 75,000. the corp declares and issues a cash distribution of 90k to Clare, sole shareholder. Clare’s basis is 12k. How is the distribution treated?

Answer 24

1. ) the distribution will be dividend income to the extent of current E&P, so 75k. Current E&P will have a 0 balance.
2. ) It is a tax free distribution up to the amount of the shareholder basis. In this case 12k. Basis will go down to 0
3. ) remaining is capital gain. In this case 3k.

Question 25

Corporation distributions:
A Corp has accumulated E&P of 120k and current E&P of 75,000. the corp declares and issues a property distribution of land with a FMV of 90k and a basis of 65k to clare, sole shareholder. The property also has a liability of 15k which clare will assume. How is the distribution treated?

Answer 25

1.) Dividend income: 90k - 15k = 75k

2. ) Shareholder basis: 90k (always FMV)
   2a. )Shareholder dividend: 90k-15k= 75K

3.)Corp effect on E&P: 90k - 65k = 25k of recognized gain

Question 26

Can non-liquidating distributions recognize a loss?

Answer 26

No only gains.

Question 27

Corp Formation:

What are the holding periods for the shareholder and corp on assets or securities transferred?

Answer 27

Shareholder: If the capital or 1231 asset are transferred, then the holding period for the stock will be what the holding period for the asset was. if inventory was transferred then the holding period starts on the day of transfer.

Corp: Property acquired has the same holding period the shareholder had.

Question 28

Corp Formations: Rob forms a Corp and will receive 100% of stock. He will contribute the following:

Cash: Basis of 10k and FMV of 10k
Equip:Basis of 25k and FMV of 15K
Land: Basis of 40k and FMV of 60k
Build: Basis of 50k and FMV of 200K

Build has a liability of 135k that corp will assume. what is the gain, basis and holding period to the shareholder and the corp.

Answer 28

1. ) is this a section 351?
   a. ) Property transferred? Yes
   b. ) exchange for stock? yes
   c. ) transfer of control of 80%? Yes 100% of stock
2. )Basis of all assets is 125k minus liability of 135k equals a gain of 10k
3. )Shareholder basis: 125 (basis in assets) + 10k (gain) - 0 (boot rec’d) - 135k (liability asssumed) = 0 basis
4. )Corp basis: 125k (basis recv’d) + 10k (gain recognized)= 135k basis in assets

5.) Holding period:
Shareholder: only capital and 1231 assets transferred so it will be long term

Corp: the same as the shareholder

Question 29

Partnership:

Is gain ever recognized in a distribution whether liquidating or current?

Answer 29

Only to the extent cash exceeds basis

Question 30

Partnership:
What are guaranteed payments?

Example:
A 25% owner received 30k and Other partners received 50k in guaranteed payments. Partnership income was:

160k in net income beef ore guaranteed payments
50k in net long term capital gains

What income should the 25% partner report in her tax return?

Answer 30

Payments for partner services. It is reported by the partners (pass-through) as ordinary income subject to tax.

They are deductible for the partnership

Example:
160-50-30=80
80 x .25= 20,000
50 x .25=12,500
20,000+12,5000+30,000=62,500

Question 31

Partnership distribution:
G has a tax basis of 26,000 in a partnership. The partnership distributed 12,000 in cash, and land with a basis of 10,000 and fmv of 30,000. If this is a liquidating distribution what is the basis of the land?

If this is a current distribution what is the basis?

Answer 31

1.) liquidating:
26,000 - 12,000= 14,000. Land has to take remaining amount to make the basis 0, in a liquidating distribution.

2.) current:
26,000- 12,000 -10,000= 4,000 (taxpayer basis)

The basis in the land would be 10,000.
If the basis of the land were to exceed the taxpayer basis, the land would be whatever available basis taxpayer had.

26,000- 12,000= 14,000. If land had a basis of 15k. The basis for the taxpayer would be 14,000. Basis can’t be negative.

Question 32

Partnership:
Chris contributed land with FMV of 450k and a basis of 300k upon the formation of a partnership. He is a 1/3 partner. Two years later the partnership sells the land for 250k. How should the gain be allocated?

Answer 32

Amount realized: 525
Adjusted Basis: 300
Gain 225

Big in gain: 450k - 300= 150 Gain to chris
225-150= 75 allocated to 3 partners

chris: 175
Others: 25 each

Question 33

Partnership proportional non liquidating:
Novak owns a 40% interest in the partnership. His outside basis is 85k. The partnership distributes cash of 10k and land with a FMV of 30k and basis of 25k. What are the tax effects?

Answer 33

Beg basis: 85k
Cash         -10k
Adj Basis   75k
Land Basis 25k
End Basis   50k

Question 34

Partnership liquidating distribution:

How are gains calculated if a partner is retiring from the partnership?

Answer 34

Basis is used to by

1. ) cash is subtracted from basis. If cash exceeds basis then a capital gain is recognized.
2. ) Any unrealized AR or inventory (hot assets)
3. ) Any Capital and/or 1231 assets

Question 35

S Corp:

What are the eligibility rules for an s corp?

Answer 35

Has to be domestic
Can't be bank or insurance company
Can only issue one class of stock *
only 100 shareholders *
Limited to individuals, estates and certain trusts
can't have any nonresident alien

Question 36

S Corp:
Sally has a 100% shareholder in corp. Her outside basis is 35k. The Corp reported a business loss of 40k, a short term capital gain of 3k and interest income of 500. What is the deductible loss and Sally’s outside basis?

Answer 36

1.) beg basis 35,000
    STCG          3,000
    Int Income   500
    Adj Basis     38,500
  -Bus. Loss     (38,500)
   End Basis        0

40,000- 38,500=1,500 Suspended loss

Question 37

S Corp:
BN corp used to be a c corp and is now an s corp. BN has AE&P of 25k from its c corp years. BN has 35k in its Accumulated Adjustment Account (AAA). Brutus is the 100% shareholder of BN ans has an outside basis of 90k as of 12/31/19. On 12/31/19 BN makes a distribution of 67k to Brutus. What are the tax results of the distribution?

Answer 37

1.) reduce AAA by distribution:

AAA: 35,000
Dist: (35,000)
AAA Bal= 0 (tax free)

2.) reduce AE&P:
AE&P: 25,000
Dist: (25,000) Dividend income. Taxable
AE&P Bal=0

3.) Calculate outside basis:
Beg basis: 90,000
AAA redu: (35,000) becasue it is nontaxable
Dist bal:     (7,000) [67 -35 -25]
End Basis: 48,000

Question 38

S Corp:
A Corp made a s Corp election. On that date it had land with basis of 100k and FMV of 170k. 3 years later it sold the land for 210k. What is the taxable gain?

Answer 38

The built in gain applies to land sold within 5 years of an s Corp election.

The 70k (100k-170k) out of the 110k (210-100) would be taxed at the Corp level and the taxpayer level. The remaining 40k would only be taxed to the individual.

Question 39

What increases the basis for a shareholder of an S corp?

Answer 39

All incomes and all losses, deductions and distributions reduce it.

Question 40

What are the rules for exemption of the AMT tax?

Answer 40

First year of business is exempt.

First testing year you take the average year and if under 5 mil than business is exempt.

Every testing year afterwards you take average of last 3 years and if under 7.5 than business is exempt

Once Exemption is lost for one year Corp will always be subject to this tax.

Tax rate for corps is 20%

Question 41

Adjusted current earnings (ACE):

Corp has amt tax before ACE of 175,000. ACE is 75,000. ACE for first 3 years is:

Year 1: 30,000
Year 2: (10,000)
Year 3: 40,000

What is corps ACE for year 4?

Answer 41

1.) 75,000 - 175,000 = (100,000)

(100,000) x .75 (always .75) = (75,000)

Number can be negative if there’s been positive numbers in the past.

2.) carry back year 2
year 1: 30,000 + (10,000) = 20,000
Year 2: (10,000) + 10,000 = 0

3.) carry back year 4

year 1: 20,000 + (20,000) = 0
Year 3: 40,000 + (40,000) = 0

year 1: 0
Year 2: 0
Year 3: 0
Year 4: 15,000

The ACE adjustment was 60,000 ( year 1 + 3)

Question 42

What is the formula for the Accumulated earnings credit:

Answer 42

The greater of earnings and profits over 250,000 or amount of reasonable needs of business.

Reasonable needs include: expansion, pay off debts, providing working capital.

Question 43

What are the qualifications for redemptions?

Answer 43

Shareholder cannot own more than 50% of Corp after distribution.

Shareholder needs to own less than 80% of her original stocks after sale.

If tests are met than gain is a capital gain. If not it is dividend income

Example is shareholder owns 40% before sale and 30% after.

Passes first test. Less than 50% after sale
Passes second test. 40% x 80% = 32%

Question 44

What are the liquidating distribution exceptions?

Answer 44

A loss will be recognized by the shareholder and Corp.

The exception is for corps. If the shareholder owns more than 50% of stocks than it is considered a related party. In this case distributions must be distributed pro rata (divided among shareholder) if not then losses are not allowed.

Question 45

What are the rules for reorganization’s?

Answer 45

No gain or loss. Unless there is boot. If there is then gain is the lower of realized gain or boot.

Question 46

What are the types of reorganization’s?

Answer 46

Type A: A merger or consolidation with at least 50% stock transferring. Dissolved

Type b: must be voting and acquiring firm must own at least 80%

Type c: acquisition. 90% of all assets