These lectures cover corporate capital gains , corporate charitable contribution, dividend received deduction, net operating loss, schedule M-1.
Tax Treatment of Various Business Forms
Tax Liability for Corporations
Accounting Periods and Methods for corporations
Corporate Tax Calculation
Capital Gains and Losses for corporations
Section 291 Corporate Depreciation Recapture
Charitable Contributions for Corporations
Domestic Production Activities Deductions and Net operating loss (NOL)
Dividend Received Deduction DRD
Taxation of Organizational Expenditures
Alternate Tax Calculation
Class Exercises part 2
Corporations are governed by Subchapter C or Subchapter S of the Internal Revenue Code. Those governed by Subchapter C are referred to as or . Corporations governed by Subchapter S are referred to as .
S corporations, which generally do not pay Federal income tax, are similar to partnerships in that ordinary business income (loss) flows through to the shareholders to be reported on their separate returns. Also like partnerships, certain items flow through from the S corpo- ration to the shareholders and retain their separate character when reported on the share- holders’ returns.
Unlike proprietorships, partnerships, and S corporations, C corporations are subject to an entity-level Federal income tax. This results in what is known as double taxation. A C corporation reports its income and expenses on Form 1120 and then computes tax on the taxable income using the corporate rate schedule (see Exhibit 17.1 on the next page). When a corporation distributes its income, the corporation’s shareholders report dividend income on their own tax returns; further, no corporate deduction is allowed for the dividends paid (discussed next). Thus, income that has already been taxed at the corporate level is also taxed at the shareholder level.
Capital Gains and Losses
Capital gains and losses result from the taxable sales or exchanges of capital assets.14 These gains and losses are classified as long term or short term depending on the holding period. Each year, a taxpayer’s short-term gains and losses are combined, and long-term gains and losses are combined. The result is a net short-term capital gain or loss and a net long-term capital gain or loss. If gains and losses result (e.g., net short-term capital gain and net long-term capital loss), these amounts are further netted against each other. If instead the results are all gains or all losses (e.g., net short-term capital loss and net long-term capital loss), no further combination is necessary.
Individuals generally pay the required tax using a preferential rate of 15 or 20 percent on net capital gains (i.e., excess of net long-term capital gain over net short-term capital loss).15 Corporations, however, receive no favorable tax rate on long-term capital gains; this income is taxed at the normal corporate tax rates.
Net capital losses of corporate and individual taxpayers receive different income tax treatment. Generally, individual taxpayers can deduct up to $3,000 of net capital losses against other income. Any remaining capital losses are carried forward to future years until absorbed by capital gains or by the $3,000 annual deduction. Loss carryovers retain their identity as either long term or short term.
Recapture of Depreciation
In general, the §§ 1245 and 1250 depreciation recapture rules apply to both individual and corporate taxpayers (see Chapter 14). However, corporations may have more depreciation recapture (ordinary income) on the disposition of § 1250 property than do individuals.
Under § 291, a corporation has additional ordinary income equal to 20 percent of the excess of (1) the amount of depreciation recapture computed using § 1245 over (2) the amount of depreciation recapture computed under § 1250 (without regard to § 291). As a result, the § 1231 portion of the corporation’s gain on the disposition is reduced by the additional recapture.
Under § 1250, recapture is limited to the excess of accelerated depreciation over straight-line depreciation. In general, only straight-line depreciation is allowed for real property placed in service after 1986; thus, there will usually be no § 1250 depreciation recapture. In contrast, all depreciation taken on § 1245 property is subject to recapture.
Both corporate and individual taxpayers may deduct charitable contributions for the year in which the payment is made. However, an accrual basis corporation may claim the deduction in the year preceding payment if two requirements are met. First, the contribu- tion must be authorized by the board of directors by the end of that year. Second, it must be paid on or before the due date of the corporation’s tax return (i.e., the fifteenth day of the fourth month following the close of its taxable year).
Net Operating Losses
As for individuals, the net operating loss (NOL) of a corporation generally may be carried back 2 years and forward 20 to offset taxable income for those years. Simi- larly, corporations also may elect to forgo the carryback period and just carry forward an NOL.
Dividends Received Deduction
The purpose of the is to mitigate multiple taxation of corpo- rate income. Without the deduction, dividend income paid to a corporation would be taxed to the recipient corporation, with no corresponding deduction to the distributing corpora- tion. Later, when the recipient corporation distributed the income to its shareholders, the income would again be subject to taxation, with no corresponding deduction to the corpo- ration. The dividends received deduction alleviates this inequity.
Organizational Expenditures Deduction
Expenses incurred in connection with the organization of a corporation normally are capi- talized. That they benefit the corporation during its existence seems clear. But how can they be amortized when most corporations possess unlimited life? If a useful life cannot be determined, no deduction is allowed. Section 248 was enacted to solve this problem.
Under § 248, a corporation may elect to amortize over the 180-month period beginning with the month in which the corporation begins busi- ness.30 Organizational expenditures include the following:
• Legal services related to organization (e.g., drafting the corporate charter, bylaws, minutes of organizational meetings, and terms of original stock certificates).
• Necessaryaccountingservices. • Expenses of temporary directors and of organizational meetings of directors or
shareholders and fees paid to the state of incorporation.
Expenses that do not qualify as organizational expenditures include those connected with issuing or selling shares of stock or other securities (e.g., commissions, professional fees, and printing costs) or with transferring assets to a corporation. These expenses must be capitalized.
The first $5,000 of organizational costs is immediately expensed, with any remaining costs amortized over a 180-month period. However, the $5,000 expensing amount is phased out on a dollar-for-dollar basis when these costs exceed $50,000.