Chapter 11 Corporate Income Tax

1. Chapter 11Corporate Income Tax Income Tax Fundamentals 2013 Student Slides Gerald E. Whittenburg Martha Altus-Buller Steven Gill 2013 Cengage Learning

2. Corporate Tax Rates • Corporate rates are progressive • Marginal rates are from 15% to 39%, depending on taxable income • There are eight brackets • There are a number of ‘tax bubbles’ – these occur when tax rate schedules recapture savings from prior brackets • For corporations with large income (more than $18.33 million) the rate is a flat 35% • Qualified personal service corps taxed at flat 35% • Architects, CPAs, consultants, etc. 2013 Cengage Learning

3. Corporate Capital Gains • A corporation can choose from two alternative tax treatments on capital gains • Taxed at ordinary rates or • Elect to pay an alternative tax (35%) on net long-term capital gain (LTCG) • Essentially equivalent to maximum regular corporate tax (no tax benefit to LTCG) • Bottom line: there is no difference in tax on ordinary vs. capital income 2013 Cengage Learning

4. Dividends Received Deduction • Corporations are allowed a deduction for a percentage of the dividends received from other corporations • Attempt to alleviate triple taxation • Dividends received deduction is allowed based upon ownership • Percentage Ownership Dividends Received % Deduction < 20% 70% • 20% or more, less than 80% 80% • > 80% 100% • Dividends received deduction is limited by % • of corporate taxable income shown above • (calculated before certain deductions) 2013 Cengage Learning

5. Charitable Contributions • Corporations are allowed a deduction for charitable contributions • Cash basis taxpayers can deduct when paid • Accrual basis taxpayers have until the 15th day of the third month following year-end to contribute, as long as pledge is made by year-end • Charitable contributions limited to 10% of taxable income* • Carry forward unused deduction for five years *Calculated before any loss carry backs, net operating losses (NOLs) or the dividend received deduction 2013 Cengage Learning

6. Reconciliation of Income (Loss) per Books with Income Per Return • Schedule M-1 of Form 1120 reconciles accounting (book) income to taxable income • Amounts added to book income (left column) • Federal tax expense • Capital losses • Income recorded on tax return but not on books • Expenses recorded on books but not on tax return • Amounts deducted from book income (right column) • Income recorded on books but not on tax return • Expenses recorded on tax return but not on books See Schedule M-1 on page 11-7 2013 Cengage Learning

7. S Corporations • Certain qualified small business corporations may elect to be taxed in a manner similar to partnerships • Qualified small business corporation may elect S Corporation status if several criteria apply • Operates as a domestic corporation • Has 100 or fewer shareholders • Shareholders may not be corporations or partnerships • Has only one class of stock • Has only shareholders that are U.S. citizens or resident aliens 2013 Cengage Learning

8. S Corporation Pass Through Items • Many items retain tax character when passing through to the S Corporation’s shareholders on individual K-1 • Examples of such items include • Capital gains/losses • §1231 gains/losses • Dividend Income • Charitable contributions • Tax-exempt interest • Most credits 2013 Cengage Learning

9. Shareholder Basis in Stock • A shareholder’s initial basis in his/her stock is calculated as follows Basis of property transferred Less Boot received* Plus Gain recognized Less Liabilities transferred Equals Basis in stock • The corporation has a carry-over basis in the property contributed equal to the basis in the hands of the shareholder, increased by any gain recognized by shareholder on the transfer *Boot is any property other than stock Note: generally, corporate assumption of shareholder liabilities that are attached to property are not considered boot received 2013 Cengage Learning

10. Accumulated Earnings Tax (AET) • Penalty tax designed to prevent a corporation from avoiding tax by retaining earnings • 15% AET imposed on “unreasonable” accumulation of earnings; this is in addition to corporate income tax • Corporation may accumulate up to $250,000 a year that is exempt from AET tax or $150,000 for a service corporation • May accumulate more if can prove a valid business purpose 2013 Cengage Learning