While James Craig and his former classmate Paul Dolittle both studied accounting at school, they ended up pursuing careers in professional cake decorating. Their company, Good to Eat (GTE), specializes in custom sculpted cakes for weddings, birthdays, and other celebrations. James and Paul formed the business at the beginning of 2016 and each contributed $50,000 in exchange for a 50 percent ownership interest. GTE also borrowed $200,000 from a local bank. Both James and Paul had to personally guarantee the loan. Both owners provide significant services for the business. The following information pertains to GTE’s 2016 activities. • GTE uses the cash method of accounting (for both book and tax purposes) and reports income on a calendar-year basis. • GTE received $450,000 of sales revenue and reported $210,000 of cost of goods sold (it did not have any ending inventory). • GTE paid $30,000 compensation to James, $30,000 compensation to Paul, and $40,000 of compensation to other employees (assume these amounts include applicable payroll taxes if any). • GTE paid $15,000 of rent for a building and equipment, $20,000 for advertising, $14,000 in interest expense, $4,000 for utilities, and $2,000 for supplies. • GTE contributed $5,000 to charity. • GTE received a $1,000 qualified dividend from a great stock investment (it owned 2 percent of the corporation distributing the dividend) and it recognized $1,500 in short-term capital gain when it sold some of the stock. • On December 1, 2016, GTE distributed $20,000 to James and $20,000 to Paul. Required: a. Assume James and Paul formed GTE as an S corporation. • Complete GTE’s Form 1120S page 1, Form 1120 S, Schedule K, and Paul’s Form 1120S Schedule K-1 (note that you should use 2015 tax forms). • Compute the tax basis of Paul’s stock in GTE at the end of 2016. • What amount of Paul’s income from GTE is subject to FICA or self-employment taxes? • What amount of income, including its character, will Paul recognize on the $20,000 distribution he receives on December 1? • What amount of tax does GTE pay on the $1,000 dividend it received? b. Assume James and Paul formed GTE as an LLC. • Complete GTE’s Form 1065 page 1, Form 1065, Schedule K, and Paul’s Form 1065, Schedule K-1 (note that you should use 2015 tax forms). • Compute the tax basis of Paul’s ownership interest in GTE at the end of 2016. • What amount of Paul’s income from GTE is subject to FICA or self-employment taxes? • What amount of income, including its character, will Paul recognize on the $20,000 distribution he receives on December 1? • What amount of tax does GTE pay on the $1,000 dividend it received? c. Assume James and Paul formed GTE as a C corporation. • Complete GTE’s Form 1120, page 1 (note that you should use the 2015 tax form). • Compute the tax basis of Paul’s stock in GTE at the end of 2016. • What amount of Paul’s income from GTE is subject to FICA or self-employment taxes? • What amount of income, including its character, will Paul recognize on the $20,000 distribution he receives on December 1? • What amount of tax does GTE pay on the $1,000 dividend it received?
> In 2010 Casey made a taxable gift of $5 million to both Stephanie and Linda (a total of $10 million in taxable gifts). Calculate the amount of gift tax due this year and Casey’s unused exemption equivalent under the following alternatives. a. This year C
> Red transferred $5,000,000 of cash to State University for a new sports complex. Calculate the amount of the taxable gift.
> Laura transfers $500,000 into trust with the income to be paid annually to her spouse, William, for life (a life estate) and the remainder to Jenny. Calculate the amount of the taxable gifts from the transfers.
> For the holidays, Marty gave a watch worth $25,000 to Emily and jewelry worth $40,000 to Natalie. Has Marty made any taxable gifts this year and, if so, in what amounts? Does it matter if Marty is married to Wendy and they live in a community property st
> Sombrero Corporation, a U.S. corporation, operates through a branch in Espania. Management projects that the company’s pretax income in the next taxable year will be $100,000, $80,000 from U.S. operations and $20,000 from the branch. Espania taxes corpor
> Fred is retired and living on his pension. He has accumulated almost $1 million of property he would like to leave to his children. However, Fred is afraid much of his wealth will be eliminated by the federal estate tax. Explain whether this fear is well
> Compare and contrast the rules determining where domiciliary and non-domiciliary businesses must file state income tax returns.
> Describe the unified credit and the purpose it serves in the gift and estate tax.
> Identify the features common to the gift tax formula and the estate tax formula.
> Under what conditions can an executor or trustee elect to claim a marital deduction for a transfer of a terminable interest to a spouse?
> Assume Jack and Jill, 25 and 75 percent shareholders in UpAHill corporation have tax bases in their shares at the beginning of year 1 of $24,000 and $56,000, respectively. Also assume no distributions were made. Given the income statement above, what are
> An elderly client has a life insurance policy worth $40,000 that upon her death pays $250,000 to her sole grandchild (or his estate). The client retains ownership of the policy. Outline for her the costs and benefits of transferring ownership of the poli
> A client in good health wants to support the college education of her teenage grandchild. The client holds various properties but proposes to make a gift of cash in the amount of the annual exclusion. Explain to the client why a direct gift of cash may n
> List two questions you might pose to a client to find out whether a program of serial gifts would be an advantageous wealth transfer plan.
> Describe how to initiate the construction of a comprehensive and effective wealth plan.
> Explain why an effective wealth transfer plan necessitates cooperation between lawyers, accountants, and investment advisors.
> Gameco, a U.S. corporation, operates gambling machines in the United States and abroad. Gameco conducts its operations in Europe through a Dutch B.V., which is treated as a branch for U.S. tax purposes. Gameco also licenses game machines to an unrelated
> Web Music, located in Gardnerville, Nevada, is a new online music service that allows inexpensive legal music downloads. Web Music prides itself on having the fastest download times in the industry. It achieved this speed by leasing server space from 10
> Identify whether the corporations described below are controlled foreign corporations. a. Shetland PLC, a UK corporation, has two classes of stock outstanding, 75 shares of class AA stock and 25 shares of class A stock. Each class of stock has equal vo
> Assume the following S corporations and gross receipts, passive investment income, and corporate E&P. Will any of these corporations have its Selection terminated due to excessive passive income? If so, in what year? All became S corporations at the
> Tempe Corporation is a calendar-year corporation. At the beginning of 2016, its election to be taxed as an S corporation became effective. Tempe Corp.’s balance sheet at the end of 2015 reflected the following assets (it did not have an
> When an S corporation shareholder has suspended losses due to the tax-basis or at-risk limitation, is he allowed to deduct the losses if the S corporation status is terminated? Why or why not?
> Why would a new partner who pays more for a partnership interest than the selling partner’s outside basis want the partnership to elect a special basis adjustment?
> In general, how do the disproportionate distribution rules ensure that partners recognize their share of partnership ordinary income?
> Discuss the underlying concern to tax policy makers in distributions in which a partner receives more or less than his share of the partnership hot assets.
> SBT Partnership distributes $5,000 cash and a parcel of land with a fair market value of $40,000 and a $25,000 basis to the partnership to Sam (30% partner). What factors must Sam and SBT consider in determining the tax treatment of this distribution?
> How does a partner determine his basis in distributed assets when the partnership distributes other property in addition to money and hot assets?
> Describe how a partner determines his basis in distributed assets in cases in which a partnership distributes only money, inventory, and/or unrealized receivables in a liquidating distribution.
> Compare and contrast the aggregate and entity approaches for a sale of a partnership interest.
> Under what conditions will a partner recognize loss in a liquidating distribution?
> Alabama Corporation, an S corporation, liquidates this year by distributing a parcel of land to its sole shareholder Mark Ingram. The fair market value of the parcel is $50,000 and its tax basis is $30,000. Mark’s basis in his stock is $25,000. a. What
> Grace, James, Helen, and Charles each own equal interests in GJHC Partnership, a calendar year-end, cash-method entity. On January 1 of the current year, James’ basis in his partnership interest is $62,000. For the taxable year, the par
> Juanita is the sole shareholder of Belize Corporation (a calendar-year S corporation). She is considering revoking the S election. It is February 1, year 1. What options does Juanita have for timing the effective date of the S election revocation?
> Last year, Miley decided to terminate the S corporation election of her solely owned corporation on October 17, 2015 (effective immediately), in preparation for taking it public. At the time of the election, the corporation had an accumulated adjustments
> Carolina Corporation, an S corporation, has no corporate E&P from its years as a C corporation. At the end of the year, it distributes a small parcel of land to its sole shareholder Shadiya. The fair market value of the parcel is $70,000 and its tax basi
> Pine Corp., a calendar-year corporation, was formed three years ago by its sole shareholder, Connor, who has always operated it as a C corporation. However, at the beginning of this year, Connor made a qualifying Selection for Pine Corp., effective Janua
> At the end of the year, before distributions, Bombay (an S corporation) has an accumulated adjustments account balance of $15,000 and accumulated E&P of $20,000 from a previous year as a C corporation. During the year, Nicolette (a 40 percent shareholder
> Assume the following year 2 income statement for Johnstone Corporation, which was a C corporation in year 1 and elected to be taxed as an S corporation beginning in year 2. Johnstone’s earnings and profits at the end of year 1 were $10,
> Janna has a tax basis of $15,000 in her Mimikaki stock (Mimikaki has been an S corporation since inception). In 2016, Janna was allocated $20,000 of ordinary income from Mimikaki. What is the amount and character of gain she recognizes from end of the ye
> Maple Corp., a calendar-year corporation, was formed three years ago by its sole shareholder, Brady, who immediately elected S corporation status. On December 31 of the current year, Maple distributed $30,000 cash to Brady. What is the amount and charact
> Friends Jackie (0.5 percent owner), Jermaine (1 percent owner), Marlon (2 percent owner), Janet (86 percent owner), and Tito (10.5 percent owner) are shareholders in Jackson 5 Inc. (an S corporation). As employees of the company, they each receive health
> This year, Justin B.’s share of S corporation income includes $4,000 of interest income, $5,000 of dividend income, and $40,000 of net income from the corporation’s professional service business activity. a. Assume that Justin B. materially participates
> Allison, Keesha, and Steven each own equal interests in KAS Partnership, a calendar year-end, cash-method entity. On January 1 of the current year, Steven’s basis in his partnership interest is $27,000. During January and February, the
> Under what conditions will a partner recognize gain in a liquidating distribution?
> Using the facts in problem 62, could Adam and Tom lower their payroll tax exposure if they operated their business as a partnership? Why or why not?
> In what circumstances could a calendar-year C corporation make an election on February 1, year 1, to be taxed as an S corporation in year 1 but not have the election effective until year 2?
> Adam Fleeman, a skilled carpenter, started a home improvement business with Tom Collins, a master plumber. Adam and Tom are concerned about the payroll taxes they will have to pay. Assume they form an S corporation, and each earns a salary of $80,000 fro
> In the past several years, Shakira had loaned money to Shakira Inc. (an S corporation) to help the corporation keep afloat in a downturn. Her stock basis in the S corporation is now zero, and she had deducted $40,000 in losses that reduced her debt basis
> Neil owns stock in two S corporations, Blue and Green. He actively participates in the management of Blue but maintains ownership in Green only as a passive investor. Neil has no other business investments. Both Blue and Green anticipate a loss this year
> Abigail, Bobby, and Claudia are equal owners in Lafter, an S corporation that was a C corporation several years ago. While Abigail and Bobby actively participate in running the company, Claudia has a separate day job and is a passive owner. Consider the
> Barry Potter and Winnie Weasley are considering making an S election on March 1, 2017, for their C corporation, Omniocular. However, first they want to consider the implications of the following information: • Winnie is a U.S. citizen and resident. • Bar
> Knowshon, sole owner of Moreno Inc., is contemplating electing S status for the corporation (Moreno, Inc. is currently taxed as a C corporation). Provide recommendations related to Knowshon’s election under the following alternative scenarios: a. At the
> How do S corporations report dividends they receive? Are they entitled to a dividends received deduction? Why or why not?
> Until the end of year 0, Magic Carpets (MC) was a C corporation with a calendar year. At the beginning of year 1 it elected to be taxed as an S corporation. MC uses the LIFO method to value its inventory. At the end of year 0, under the LIFO method, its
> If a partner’s outside basis is less than the partnership’s inside basis in distributed assets, how does the partner determine his basis of the distributed assets in an operating distribution?
> Farve Inc. recently elected S corporation status. At the time of the election, the company had $10,000 of accumulated earnings and profits, and a net unrealized gain of $1,000,000 associated with land it had invested in (although some parcels had an unre
> Why must an S corporation report separately stated items to its shareholders? How is the character of a separately stated item determined? How does the S corporation report this information to each shareholder?
> Can a partnership have unrealized receivables if it has no accounts receivable?
> On June 1, year 1, Jasper Corporation’s Selection was involuntarily terminated. What is the earliest Jasper may be taxed as an S corporation again? Are there any exceptions to the general rule? Explain.
> Compare and contrast S corporations, C corporations, and partnerships in terms of tax consequences at formation, shareholder restrictions, income allocation, basis calculations, compensation to owners, taxation of distributions, and accounting periods.
> On what form does an S corporation report its income to the IRS? When is the tax return due? What information does the S corporation provide to shareholders to allow them to complete their tax returns?
> Is the LIFO recapture tax a C corporation tax or an S corporation tax? Explain.
> When is an S corporation required to pay the excess net passive income tax?
> How are the tax consequences of a cash distribution different from those of a non-cash property distribution to both the corporation and the shareholders?
> When is an S corporation required to pay a built-in gains tax?
> How do the tax consequences of S corporation liquidating distributions differ from the tax consequences of S corporation operating distributions at both the corporate and shareholder levels?
> Compare and contrast the method of allocating income or loss to owners for partnerships and for S corporations.
> Under what circumstances could a corporation with earnings and profits make a tax-free distribution to its shareholders after the S election termination?
> If an S corporation with accumulated E&P makes a distribution, from what accounts (and in what order) is the distribution deemed to be paid from?
> What does the accumulated adjustments account represent? How is it adjusted year by year? Can it have a negative balance?
> Karen is the sole shareholder of a calendar year-end C corporation she formed last year. If she elects S corporation status this year on February 20, when will the election become effective and why? What if she had made the election on March 20?
> How does the tax treatment of employee fringe benefits reflect the hybrid nature of the S corporation?
> When considering C corporations, the IRS checks to see whether salaries paid are too large. In S corporations, however, it usually must verify that salaries are large enough. Account for this difference.
> How does a shareholder create debt basis in an S corporation? How is debt basis similar and dissimilar to stock basis?
> What restrictions might prevent a partner from selling his partnership interest to a third party?
> Is a shareholder allowed to increase her basis in her S corporation stock by her share of the corporation’s liabilities, as partners are able to increase the basis of their ownership interest by their share of partnership liabilities? Explain.
> Describe the three hurdles a taxpayer must pass if he wants to deduct a loss from his share in an S corporation.
> Can a shareholder’s basis in S corporation stock ever be adjusted to a negative number? Why or why not?
> Describe a situation in which a former C corporation that elected to be taxed as an S corporation may have its Selection automatically terminated, but a similarly situated corporation that has always been taxed as an S corporation would not.
> What adjustments are made annually to a shareholder’s basis in S corporate stock and in what order? What impact do these adjustments have on a subsequent sale of stock?
> Shawn receives stock in an S corporation when it is formed by contributing land with a tax basis of $50,000 and encumbered by a $20,000 mortgage. What is Shawn’s initial basis in his S corporation stock?
> Carrie D’Lake, Reed A. Green, and Doug A. Divot share a passion for golf and decide to go into the golf club manufacturing business together. On January 2, 2016, D’Lake, Green, and Divot form the Slicenhook Partnership
> Paolo is a 50% partner in the Capri Partnership and has decided to terminate his partnership interest. Paolo is considering two options as potential exit strategies. The first is to sell his partnership interest to the two remaining 25% partners, Giusepp
> What are “hot assets” and why are they important in the sale of a partnership interest?
> Simon is a 30% partner in the SBD Partnership, a calendar-year-end entity. As of the end of this year, Simon has an outside basis in his interest in SBD of $188,000, which includes his share of the $60,000 of partnership liabilities. On December 31, SBD
> Are special basis adjustments mandatory? If so, when?
> Helen’s basis in Haywood Partnership is $270,000. Haywood distributes all the land to Helen in complete liquidation of her partnership interest. The partnership reports the following balance sheet just before the distribution: a. What i
> Erin’s basis in her Kiybron Partnership interest is $3,300. Erin receives a distribution of $2,200 cash from Kiybron in complete liquidation of her interest. Kiybron is an equal partnership with the following balance sheet: a. What is t
> Cliff’s basis in his Aero Partnership interest is $11,000. Cliff receives a distribution of $22,000 cash from Aero in complete liquidation of his interest. Aero is an equal partnership with the following balance sheet: a. What is the am
> Michelle pays $120,000 cash for Brittany’s one-third interest in the Westlake Partnership. Just prior to the sale, Brittany’s basis in Westlake is $96,000. Westlake reports the following balance sheet: a. What is the a
> Under what circumstances will a partner recognize a gain from an operating distribution?
> Bella Partnership is an equal partnership in which each of the partners has a basis in his partnership interest of $10,000. Bella reports the following balance sheet: a. Identify the “hot assets” if Toby decides to sel
> Danner Inc. has a $395,000 capital loss carryover that will expire at the end of the current tax year if it is not used. Also, Danner Inc. has been a general partner in the Talisman Partnership for three years and plans to end its involvement with the pa
> Bryce’s basis in the Markit Partnership is $58,000. In a proportionate liquidating distribution, Bryce receives the following assets: a. How much gain or loss will Bryce recognize on the distribution? What is the character of any recogn
> Megan and Matthew are equal partners in the J & J Partnership (calendar-year-end entity). On January 1 of the current year, they decide to liquidate the partnership. Megan’s basis in her partnership interest is $100,000 and Matthew’s is $35,000. The two
> David’s basis in the Jimsoo Partnership is $53,000. In a proportionate liquidating distribution, David receives cash of $7,000 and two capital assets: (1) land 1 with a fair market value of $20,000 and a basis to Jimsoo of $16,000 and (2) land 2 with a f
> When might a new partner have an upward basis adjustment following the acquisition of a partnership interest?
> Super Corp. was organized under the laws of the state of Montana. It issued common voting stock and common nonvoting stock to its two shareholders. Is Super Corp. eligible to elect S corporation status? Why or why not?
> AJ is a 30% partner in the Trane Partnership, a calendar-year-end entity. On January 1, AJ has an outside basis in his interest in Trane of $73,000, which includes his share of the $50,000 of partnership liabilities. Trane generates $42,000 of income dur
> Lonnie Davis has been a general partner in the Highland Partnership for many years and is also a sole proprietor in a separate business. To spend more time focusing on his sole proprietorship, he plans to leave Highland and will receive a liquidating dis
