Chapter 2 - Chapter C:2 Corporate Formations and Capital...

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Chapter C:2 Corporate Formations and Capital Structure Learning Objectives After studying this chapter, you should be able to: 1. Explain the tax advantages and disadvantages of using each of the alternative business forms. 2. Apply the check-the-box regulations as they pertain to partnerships, corporations, and trusts. 3. Determine the legal requirements for forming a corporation. 4. Explain the requirements for deferring gain or loss upon incorporation. 5. Understand the tax implications of alternative capital structures. 6. Determine the tax consequences of worthless stock or debt obligations. 7. Understand the financial statement implications of forming a corporation. Highlights of Recent Tax Law Changes The Jobs and Growth Tax Relief Reconciliation Act of 2003 provided that distributed dividends received by a noncorporate shareholder are taxed at a 15% rate for taxpayers whose ordinary tax bracket exceeds the 15% rate. Long-term capital gains are also taxed at a 15% rate. The 15% rate for dividends and capital gains is scheduled to remain effective through 2010. The Health Reform Act of 1996 extends the ability of self-employed individuals and partners to deduct a percentage of their health insurance costs incurred on behalf of themselves, their spouses, and their dependents as a trade or business expense. The percentage allowed is 80% in 2006 and thereafter. Excess health insurance costs may be deducted as an itemized deduction subject to the 7.5% of AGI nondeductible floor. Lecture Outline I. Organization Forms Available . Businesses can be conducted in one of several forms. A. Sole Proprietorships. A sole proprietorship is a business owned by one individual and often is selected by individuals who are beginning a new business. The income and expenses are reported on a Schedule C of Form 1040 since a sole proprietorship is not a separate tax entity. All of the business assets are owned by the proprietor.
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A completed Schedule C and the related facts are included in Appendix B. These facts are used (with minor modifications) to illustrate the similarities and differences in the tax reporting process for a sole proprietorship, C corporation, partnership, and S corporation. 1. Tax Advantages. 2. Tax Disadvantages. B. Partnerships. A partnership is an unincorporated business carried on by two or more individuals or other entities. A partnership is a tax reporting, non-taxpaying entity, which acts as a conduit. All items of income, expense, gain, loss and credit flow through to the partners' tax returns. A partnership must file a Form 1065 annually. Each partner receives a Schedule K-1 (Form 1065), which provides the information that must be reported on the partner's tax return. Only those partnerships maintaining a fiscal year under the Sec. 444 reporting period rules must make tax payments based on the amount of income deferral. A completed Form 1065 and the related facts are included in Appendix B.
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