Bob should choose a business entity that has limited liability protection

Bob should choose a business entity that has limited

This preview shows page 13 - 16 out of 17 pages.

potential economic impact and appropriate IRS code and regulations. Bob should choose a business entity that has limited liability protection because it offers protection from personal liability for business debts and claims. This means that if the business can’t pay their creditors, the creditors can’t legally come after the business’s owner’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 have on the client’s personal tax return. Consider addressing how the business entity affects the completion of the 1040 form. The 26 US Code § 1363 states that the taxable income of an S corporation will be computed 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 paid to foreign countries, charitable contributions, operating losses, additional itemized deductions for individuals, and deduction for depletion, won’t be allowed to the corporation, Section 248 applies (which states that the company is allowed to deduct organizational expenditures with some limitations), Section 291 (special rules relating to corporate preference items) applies if the S corporation was a C corporation for any of the previous 3 years.
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The 26 US Code § 1366 also states that the aggregate amount of losses and deductions taken into account by the shareholders cannot exceed the sum of the adjusted basis of the shareholder’s stock in the S corporation and the shareholder’s adjusted basis of any indebtedness of the S corporation to the shareholder. Once the business have completed their pass-through return (1120S), the shareholders will transfer their portion of the net income or losses located in the business’s return on Schedule K-1 onto their individual return, Schedule E Part II. This way the shareholder complies with the US Code and files the income or losses associated from the business separately from any other source of income. The net income will be subject to the individual taxpayer’s tax tables. II. Conclusion A. Evaluate the economic impact on the client’s personal returns based on the recommended entity. Justify why the client would not choose the other business entities by informing the client of the differences. We decided for an S corporation primarily because the company would be taxed once instead of twice as it would have happened if we had chosen a regular corporation (Once as a corporation and once as a shareholder when dividends are distributed). Bob’s business possibly would have been subjected to a tax liability twice as high if he had chosen a regular corporation. For example, C Corporation S Corporation Business’s net income 500,000 500,000
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C corporation tax liability (40%) (200,000) 0 Net income distributed to shareholder 300,000 500,000 Individual tax liability (36%) (108,000) (180,000) Income after taxes 192,000 320,000
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