Topic 1 - Federal Tax Systems Flashcards
What are the advantages of a Sole Proprietorship?
They are easy to form and offers complete managerial control to the owner.
Flow-through entity - the proprietorship does not bear the tax burden of profits or the benefit of losses. Profits or losses are “passed through” to the owner to report on their individual income tax return.
What are the disadvantages to a Sole Proprietorship?
The owner is personally liable for all financial obligations of the business.
Self-employment taxes apply.
Business continuity ends with death or departure of the owner.
Difficult to raise capital
What are the advantages to a Partnership?
Flow-through entity - the partnership does not bear the tax burden of profits or the benefit of losses. Profits or losses are “passed through” to partners to report on their individual income tax returns.
Easy to establish
Increased ability to raise funds when there is more than one owner
Wider pool of knowledge, skills, and contacts
Improved management with more than one owner.
What are the disadvantages of a Partnership?
Partners are jointly and severally liable for the actions of other partnership obligations including contracts, torts, and breaches of trust. Joint and several liability means that if a third party were to sue the partners, the third party can sue any one of the partners without suing all of them. If a partner has been sued but cannot pay the third party the full amount, the third party may collect the money from the remaining partners.
Each partner is individually liable for the debts and obligations of the business; if the business does not have enough assets to pay back business debts, creditors can take the personal assets of the partners.
A partner cannot transfer interest in the business without the unanimous consent of the partners.
Partnerships can potentially be unstable because of the danger of dissolution if one partner wants to withdrawal from the business or dies.
How does a Limited Partnership differ from a Partnership?
As opposed to having equal partners, an LP has one or more general partners and one or more limited partners.
General partners have 100% liability and participate in the management.
Limited partners cannot participate in management and have no liability for partnership obligation beyond their capital contribution.
How does a Limited Liability Partnership LLP differ from a Partnership?
LLPs are limited to professional occupations like attorneys and physicians.
Allows for limited liability for all partnership and can actively participate in the management.
Partner in an LLP is personally liable for his own negligence.
Partner is also personally liable for debts to business creditors.
What are the advantages for a C Corporation?
A C Corp is its own legal entity that can be taxed and held legally liable for its actions while the owners avoid personal liability.
They can have an unlimited amount of shareholders, from anywhere in the world.
They can have several different classes of shares.
They have the widest range of deductions and expenses allowed by the IRS.
They are the most widely recognized business entity in the world and are the premier entity for going public.
What are the disadvantages of a C Corporation?
Double Taxation happens when a C-Corp has a profit left over at the end of the year and wants to distribute it to the shareholders as a dividend. The C-Corp has already paid taxes on that profit, but once it distributes the profit to its shareholders, those shareholders will have to declare the dividends they receive as income on their personal tax returns, and pay taxes again, at their own personal rates.
The cost to form a corporation
Extensive record-keeping required
What are the advantages of an S Corporation?
Limited liability. Company directors, officers, shareholders, and employees enjoy limited liability protection.
Pass-through taxation. Owners report their share of profit and loss on their individual tax returns.
Elimination of double taxation of income. Income is not taxed twice – once as corporate income and again as dividend income.
Investment opportunities. The company can attract investors through the sale of shares of stock.
Perpetual existence. The business continues to exist even if the owner leaves or dies.
Once-a-year tax filing requirement. Versus c corps, which must file quarterly.
What is a Limited Liability Company LLC?
A hybrid form of partnership and corporation
Profits and losses can be passed through to owners without taxation of the business itself while owners are shielded from personal liability.
What are the advantages of a Limited Partnership?
Being a limited partner puts a limitation on liability with respect both to potential lawsuits and money; the limited partner is only going to be liable for the amount of capital it contributed to the business; a business creditor cannot come after the limited partner’s personal assets.
Easier to attract investors because limited partners have limited liability to the business debts.
Profits and losses pass through the business to the partners, who are taxed on their own personal income tax returns.
Limited partners get to share in the profits and losses without having to participate in the business itself.
What are the disadvantages of Limited Partnerships?
If the limited partner becomes active in the business he or she may have general-partner personal liability.
General partner is personally fully liable for the debts of the business.
Certificate of Limited Partnership must be filed with the state before the partnership comes into existence, which includes state filing fees.
What are the disadvantages to an S Corporation
U.S. citizens and permanent residents only. Unlike the c corp and LLC (Limited Liability Company), you have to be a legal resident of the U.S.
Limited ownership. An s corp may not have more than 100 shareholders.
Formation and ongoing expenses. It is necessary to first incorporate the business by filing Articles of Incorporation with your desired state of incorporation, obtain a registered agent for your company, and pay the appropriate fees. Many states also impose ongoing fees, such as annual report and/or franchise tax fees.
Tax qualification obligations. Mistakes regarding the various filing requirements can accidentally result in the termination of s corp status.
Closer IRS scrutiny. Payments to employees and shareholders could be distributed as either salaries or dividends. Each are taxed differently, which is what leads the IRS to scrutinize that distribution more closely.
What tax form does a Sole Proprietorship file?
Form 1040
What tax form does a Partnership file?
Form 1065
