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C.Cash or Accrual SystemsOverall. the cash method of accounting is simple and an easy way recognize revenuein a given year. It also, provides a business a snapshot of their cash flow. However,due to the restrictions imposed by the Internal Revenue Code, certain entities are notallowed to use the cash method (i.e. Partnerships, LLC, & Corporations). If apartnership, LLC or corporation has an average sale of less than five million dollarsin the last 3 years they are permitted to use the cash method. Accrual method is amore difficult way to recognize revenue, however, through budgeting and properstrategy it can be very beneficial for corporations and partnerships.D. Tax Effects on Cash FlowAfter paying taxes on the sale of his land, Bob will have a considerable amount ofcapital to start his used car business. Since he will be starting off with a lot of money,
`his marginal tax rate will be high. To offset his taxable liability for the year, Bobwould have to start up his business and anything he spends towards his business thatis necessary and ordinary for his business would be able to be deducted. Also, undersection 195, Bob would be able to immediately deduct up to $10,000 of his start- upcost for the taxable year he starts his business. He can also, gift a portion of the salesto his daughter which would also lower his AGI for the next year (26 I.R.C § 170).E.Salary or Cash DistributionDetermining to take salary or cash distributions would depend on the businessstructure Bob selects for his business. If Bob selects to be a single member limitedliability company (LLC) income passes through to him. A single member LLCprovides Bob the autonomy of a sole proprietorship while protecting his personalassets. He would file taxes on his personal return (1040) and withdraw cash fromprofits to pay himself as well as an owners draw to give money to his daughter. Bothtransactions can be reported in schedule C on his personal return. Which is an abovethe line deduction. A cash distribution is best under a single member LLC all ownerdraws are pass through as taxable income to Bob. An LLC classified as an S- corporation is also an option for Bob’s business. Thebenefits are like a partnership and corporation put together. Just like an LLC, an Scorporation’s income passes through to the individuals, shareholders (limited at 100)or entities. Income is reported on form 2553 instead of 1040. Salary distributions
`would be best under this entity because salary expenses are a deductible businessexpense IRC § 162.Since we have recommended that Bob form an LLC classified as a partnership,distributions that are made are called guaranteed payment (which are salary likedistributions) and are based on a member’s interest in the company. Salary or cashdistributions do not matter for this entity because either way they are reported thesame on schedule K-1 and reported on schedule E on the 1040 form.