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potential economic impact and appropriate IRS code and regulations. Bob should choose a business entity that has limited liability protection because it offersprotection from personal liability for business debts and claims. This means that if thebusiness can’t pay their creditors, the creditors can’t legally come after the business’sowner’s assets. The creditors would only come after the business’s assets. In other words,the owner would only loose his or her investment towards the business. G. Describe the tax effect on the recommended business entity and the impact it will haveon the client’s personal tax return. Consider addressing how the business entity affects thecompletion of the 1040 form. The 26 US Code § 1363 states that the taxable income of an S corporation will becomputed in the same manner as for individuals, with the exception of:Items of income, loss, deductions, or credits will be separately stated, Deductions referred to in section 703(a)(2), like personal exemptions, taxes paidto foreign countries, charitable contributions, operating losses, additional itemizeddeductions for individuals, and deduction for depletion, won’t be allowed to thecorporation, Section 248 applies (which states that the company is allowed to deductorganizational expenditures with some limitations), Section 291 (special rules relating to corporate preference items) applies if the Scorporation was a C corporation for any of the previous 3 years.
The 26 US Code § 1366 also states that the aggregate amount of losses anddeductions taken into account by the shareholders cannot exceed the sum of theadjusted basis of the shareholder’s stock in the S corporation and the shareholder’sadjusted basis of any indebtedness of the S corporation to the shareholder. Once the business have completed their pass-through return (1120S), the shareholderswill transfer their portion of the net income or losses located in the business’s returnon Schedule K-1 onto their individual return, Schedule E Part II. This way theshareholder complies with the US Code and files the income or losses associatedfrom the business separately from any other source of income. The net income will besubject to the individual taxpayer’s tax tables. II.ConclusionA. Evaluate the economic impact on the client’s personal returns based on therecommended entity. Justify why the client would not choose the other business entitiesby informing the client of the differences. We decided for an S corporation primarily because the company would be taxed onceinstead of twice as it would have happened if we had chosen a regular corporation (Onceas a corporation and once as a shareholder when dividends are distributed). Bob’sbusiness possibly would have been subjected to a tax liability twice as high if he hadchosen a regular corporation. For example, C CorporationS CorporationBusiness’s net income 500,000500,000
C corporation tax liability (40%)(200,000)0Net income distributed to shareholder300,000500,000Individual tax liability (36%)(108,000)(180,000)Income after taxes192,000320,000