Archive for S-Corp

S Corporations – Involuntary Termination Of The S-Election

STEPHANIE URIBE: S Corporation Involuntary Termination

Private Letter Ruling 202302004, 01/13/2023, IRC Sec. 1362

Summary: Entity “A” (“A”) was incorporated as a limited liability company under state law and thus was initially treated as a partnership for federal income tax purposes. However, “A” elected to be treated as an “S-corporation” (“S-corp”) by submitting an IRS Form 2553, Election by Small Business Corporation. “A” later participated in a reorganization under 26 U.S.C. § 368(f). In doing so, “A” elected to be treated as a “qualified subchapter S subsidiary,” pursuant to 26 U.S.C. § 1361(b)(3)(B), as “A” was wholly owned by Entity “B” (“B”). “B” (referred to herein as “Taxpayer-B”) was formed as a corporation and treated as an S-corporation for income tax purposes. “A” later elected to be treated as a disregarded entity from Taxpayer-B. The owners of Taxpayer-B entered into an Operating Agreement that included provisions where it was considered to treat the entity as a partnership (and not an S-corp) for federal income tax purposes but without limiting the company to that treatment, and the agreement included several partnership provisions. Taxpayer-B later adopted a Revised Operating Agreement but without modification to the previous partnership tax treatment provisions and without creating a second class of stock.

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Written by | Posted in S-Corp • S-Election Involuntary Election

Tax Implications Of Converting An LLC To A Corporation

Converting An LLC To A C Corporation

(Per visitor request this is an excellent article we are re-posting from TaxConnections Member John Dundon)

Recently a husband/wife owned 3 LLC’s that each successfully elected to be treated as S-corporations for federal income tax purposes by filing IRS Form 2553 – Election by a Small Business Corporation. Subsequently this great couple found themselves entertaining a rather complicated buyout offer of all 3 of their LLCs. This post addresses the tax implications of converting an LLC to a Corporation as part of a buyout strategy…

Their fundamental question:

Can the LLCs do a tax deferred corporate reorganization under IRC 351-368?

The husband/wife were concerned that their LLCs electing S corporation status might not be able to engage in a corporate reorganization because the LLC’s were comprised of ‘member interests’ and they did not have any “stock” – which is a key term in IRC 368 governing statute.

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Written by | Posted in Conversions • LLC • S-Corp

What If An S Corp Owner Can’t Afford To Pay Reasonable Compensation?

Reasonable Compensation S Corp

This is by far the number one question we receive, and the answer is both simple and complex. Why? Because the amount of Reasonable Compensation actually paid is tied to distributions, not profit or loss.

Depending on the company’s financial condition and business strategy, a shareholder-employee may be able to take Reasonable Compensation plus a distribution, just Reasonable Compensation, or neither. What the shareholder-employee can’t do take a distribution instead of Reasonable Compensation.

To help you better understand, let’s run through a few simple scenarios and then move onto some more advanced ones. Keep in mind the following:

Reasonable Compensation is defined by the IRS as: “The value that would ordinarily be paid for like services by like enterprises under like circumstances.” or the hypothetical “Replacement Cost” of the shareholder-employee.

Reasonable Compensation is based on the value of services provided (Hypothetical Replacement Cost), not profit, distributions or the amount the company can afford to pay.
Wages (Reasonable Compensation) should be paid BEFORE distributions are made.
A shareholder-employee can take wages (Reasonable Compensation) without taking a distribution, but not vice versa.
A shareholder-employee who does not want to take any Reasonable Compensation can refuse all compensation (distribution), and play ‘catch up’ in a later year.
Reasonable Compensation is derived from the value of the services provided, not the profit or loss of the business. While Reasonable Compensation has nothing to do with profit and loss, it does relate to Distributions. Why? Because the IRS guidelines for Reasonable Compensation state: The amount of reasonable compensation will never exceed the amounts received by the shareholder either directly or indirectly. It does not mention profit or loss at all but instead talks about ‘amounts received’ by the shareholder. It does not matter if the company is making or losing money; what matters is whether or not the S Corp owner is taking money (e.g. a distribution or other items of value) out of the S Corp.
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Should A Loan-Out Be A “C” Corporation Or An “S” Corporation?

Mitchell Miller
Although many people in the entertainment industry have formed or converted their loan-outs to S corporations, the Tax Cuts and Jobs Act of 2017 (TCJA) changed some of the tax rules that affect these corporations (and their owners!).

Let’s see how these changes affect the choice of what entity to use when forming a loan-out corporation:

● Using an S corporation (S corp) loan-out may cost you most of your deductions.

S corps are required (and have been for many years) to pass out employee business expenses to their shareholders, and not to deduct such expenses at the corporate level. That means that expenses such as the fees for agents, managers, lawyers, and business managers are not deductible by the corporation. Instead these fees are supposed to be only deductible by you, the shareholder, on your individual return, as miscellaneous itemized deductions on your Schedule A. But, under the TCJA changes, miscellaneous itemized deductions are no longer deductible (at all!). In other words, you will now be taxed on all your income and get none of your deductions.

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Written by | Posted in C-Corp • S-Corp

Are You An S Corporation Stockholder? Are You Taking Reasonable Compensation In The Form Of Wages?

Charles Woodson-S Corporation Reasonable Compensation

S corporation compensation requirements are often misunderstood and abused by owner-shareholders. An S corporation is a type of business structure in which the business does not pay income tax at the corporate level and instead distributes (passes through) the income, gains, losses, and deductions to the shareholders for inclusion on their income tax returns. If there are gains, these distributions are considered return on investment and therefore are not subject to self-employment taxes.

However, if stockholders also work in the business, they are supposed to take reasonable compensation for their services in the form of wages, and of course, wages are subject to FICA (Social Security and Medicare) and other payroll taxes. This is where some owner-shareholders err by not paying themselves a reasonable compensation for the services they provide, some out of unfamiliarity with the requirements and some purposely to avoid the payroll taxes.

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Best Business Entity Structure After Tax Reform – S-Corp And C-Corp

William Rogers

There’s no easy answer to this question, though the entity choice considerations have undergone some changes due to the new tax law. For tax years beginning in 2018 and beyond, the Tax Cuts and Jobs Act (TCJA) created a flat 21% federal income tax rate for C corporations. Under prior law, C corporations were taxed at rates as high as 35%. The TCJA also reduced individual income tax rates, which apply to sole proprietorships and pass-through entities, including partnerships, S corporations, and, typically, limited liability companies (LLCs). The top rate, however, dropped only slightly, from 39.6% to 37%.

On the surface, that may make choosing C corporation structure seem like a no-brainer. But there are many other considerations involved.

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Written by | Posted in C-Corp • S-Corp • Tax Cuts Jobs Act • William Rogers

How High-Income Professionals Can Benefit From The Pass-through Deduction

Charles Woodson - Pass-through Deductions

If you are a high-income professional who is excluded from the new pass-through deduction because you are in a specified service trade or business (SSTB), you may be able to use retirement plan contributions as a work-around so that you can benefit from that new 20% deduction.

An SSTB generally includes the following trades or businesses:

  • Health (services by physicians, nurses, dentists, veterinarians, and other similar health care providers, although this does not apply to spas and health clubs)
  • Law
  • Accounting
  • Actuarial science
  • Performing arts (but this does not apply to the services of others in the industry, such as promoters and broadcasters);
  • Consulting
  • Athletics
  • Financial services

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Written by | Posted in Pass-Through Business Deduction • S-Corp

Is Your Business Still The Right Entity Under The New Tax Rule? (Part 2)

Blake Christian - Choose Business Entity Part 2

More tips about determining the right corporate, partnership or other structure that’s best for your business—and where you are in life.

Key Takeaways:
• The legal structure of your business operations can have a significant impact on your annual income tax and estate planning.
• When you and/or your heirs expect to be at or near the maximum income tax rates, you will generally want to leave appreciated and appreciating assets in the taxable estate, rather than transfer them prior to death.
• In general, assets with the potential to appreciate in value should not be placed into an S or C Corporation.

As many of you know, The Tax Act of 2017 created a host of changes and considerations for successful business owners in their families. There are six widely used business operating structure. In Part 1 {LINK} of this article we discussed Sole Proprietorships (Schedule C), Limited Liability Companies (LLC) and Limited Partnerships. Here will take a closer look at the other three
entities: General Partnerships, Subchapter S Corporations and Subchapter C Corporations.

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Written by | Posted in C-Corp • S-Corp • TaxConnections

After Tax Reform, Which Is Right For You: S Corp or C Corp?

Charles Woodson, S- Corp Or C-Corp

The Tax Cuts and Jobs Act has left many of today’s businesses with big questions. Incorporation remains a hot topic, but this law is shaking things up. It’s quick to assume your company should be one or the other, but without careful consideration of the facts, your organization may end up facing financial loss, hefty tax penalties or missed tax savings.

The goal of this type of incorporation is to minimize tax burdens, but the wrong decision can be costly. In a C Corp, the company pays corporate taxes to the Internal Revenue Service. But, in an S Corp, there’s no entity tax. Rather, taxes are paid through an individual return.

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Written by | Posted in C-Corp • S-Corp • TaxConnections

S Corporation Business Structures Many Considerations

William Rogers - S Corporations

The S corporation business structure offers many advantages, including limited liability for owners and no double taxation (at least at the federal level). But not all businesses are eligible – and, with the new 21% flat income tax rate that now applies to C corporations, S corps may not be quite as attractive as they once were.

Tax Comparison

The primary reason for electing S status is the combination of the limited liability of a corporation and the ability to pass corporate income, losses, deductions and credits through to shareholders. In other words, S corps generally avoid double taxation of corporate income — once at the corporate level and again when distributed to the shareholder. Instead, S corp tax items pass through to the shareholders’ personal returns and the shareholders pay tax at their individual income tax rates.

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Written by | Posted in S-Corp • William Rogers

S Corporation: What Is Reasonable Compensation For Employees?

S- Corporation: What Is Reasonable Compensation?

When computing compensation for employees and shareholders, S corporations may run into a variety of issues. The information below from the IRS may help to clarify some of these concerns.

Reasonable Compensation

S corporations must pay reasonable compensation to a shareholder-employee in return for services that the employee provides to the corporation before non-wage distributions may be made to the shareholder-employee. The amount of reasonable compensation will never exceed the amount received by the shareholder either directly or indirectly.

The instructions to the Form 1120S, U.S. Income Tax Return for an S Corporation, state “Distributions and other payments by an S corporation to a corporate officer must be treated as wages to the extent the amounts are reasonable compensation for services rendered to the corporation.”

Several court cases support the authority of the IRS to reclassify other forms of payments to a shareholder-employee as a wage expense which are subject to employment taxes.

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Domestic Partnerships, S Corporations, Passthrough Entities Are Required To Report Information To Partners, Shareholders, or Beneficiaries

In general, section 965 of the Code requires United States shareholders, as defined under section 951(b) of the Code, to pay a transition tax on the untaxed foreign earnings of certain specified foreign corporations as if those earnings had been repatriated to the United States. Very generally, section 965 of the Code allows taxpayers to reduce the amount of such inclusion based on deficits in earnings and profits with respect to other specified foreign corporations. The effective tax rates applicable to such income inclusions are adjusted by way of a participation deduction set out in section 965(c) of the Code. A reduced foreign tax credit applies to the inclusion under section 965(g) of the Code. Taxpayers, pursuant to section 965(h) of the Code, may elect to pay the transition tax in installments over an eight-year period. Generally, a specified foreign corporation means either a controlled foreign corporation, as defined under section 957 of the Code (“CFC”), or a foreign corporation (other than a passive foreign investment company, as defined under section 1297 of the Code, that is not also a CFC) that has a United States shareholder that is a domestic corporation.

According to IRC Section 965 domestic partnerships, s – corporations, passthrough entities are required to report information to partners, shareholders and/or beneficiaries in connection with the code. A domestic partnership, S corporation, pass-through entities or other passthrough entity should attach a statement to its Schedule K-1s, if applicable, that includes the following information for each deferred foreign income corporation for which such passthrough entity has a section 965(a) inclusion amount:

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Written by | Posted in Domestic Partnerships • Passthrough Entities • S-Corp
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