FIN3104_Test1 - FIN 3104 Intro to Finance Legal Form and...

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FIN 3104 Intro to Finance Legal Form and Taxes I. Organization Form 1. Proprietorship o Largest number o One person owns, holds title and is legally responsible Advantages o Simplicity – easy to form o No organizational costs Disadvantages o Legally responsible for all claims o Difficulty in raising capital o Difficulty in transfer of ownership 2. Partnership o All parties have unlimited liability o Jointly responsible for liabilities of partnership Advantages o Simplicity Disadvantages o Same as above o One partner can bind the others in terms of decision making o Terminates if one partner dies 3. Limited Partnership o One or more partners have limited liability limited to the amount they invested Limits 1. At least one partner must have unlimited liability 2. Limited partners can’t participate in management 3. Names of limited partner’s can’t appear in the firm’s name 4. Corporation o Business form existing separate and apart from its owners Advantages o Liability is limited to amount invested o Continues as ownership changes o Strong secondary markets so it is easy to buy and sell stock o Easy to raise capital (money) Disadvantages o Double taxation on dividends: o Corporations pay taxes on earnings o What’s left over after can be paid out in dividends o Individuals pay taxes on dividends II. Tax Setting o Bottom Line on Taxes: o If taxable income is between 335,000 -> 10 million , multiply taxable income by .34 Page 1 of 8
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FIN 3104 Intro to Finance o If taxable income is greater than 18.3 million , multiply taxable income by .35 o Corporate taxes are conceptually progressive Example: Corporation Earns $20 million Earnings x Max Tax Rate = Taxes 50,000 x .15 = 7,500 25,000 x .25 = 6,250 9,925,000 x .34 = 3,374,500 10,000,000 x .35 = 3,500,000 $6,888,250 Surtaxes o 5% surtax on $100,000 to 335,000 = $11,750 o 3% surtax on $15M to 18.3M = $100,000 $7M Taxes/income = 7M/20M = 35% III. Allowable Deductions from Income 1. Depreciation o Straight line depreciation o We’re going to use this (Why? It’s easier) o Modified Accelerated Cost Recovery System (MACRS) o Use accelerated depreciation in the real world – Why? Takes more depreciation in early years & less in the latter years 2. Interest Expense o 2 Ways to raise $: o Bring on new owners and pay them in dividends o Borrow money and pay interest o Interest payments are deducted before taxes, so they lower taxes o Bottom Line : Debt is a cheaper source of money than is equity
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This note was uploaded on 04/02/2008 for the course FIN 3104 taught by Professor Ajkeown during the Fall '07 term at Virginia Tech.

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FIN3104_Test1 - FIN 3104 Intro to Finance Legal Form and...

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