Taxation of Regular (C) Corporations

1. Taxation of Regular (C) Corporations • Distinguishing tax feature relative to other business entities: double taxation • Corporate income is taxed at the entity level and to shareholders when distributed • Legal characteristics of the corporate form • Limited Liability • Continuity of Life • Free Transferability of Interests • Centralization of Management

2. Corporate Taxable Income • Taxable gross income minus allowable business deductions (Chapters 5 & 6) • Taxable net gains on property dispositions - net capital losses not currently deductible (Chapter 7) • Special corporate considerations: • Charitable contribution limitation • Dividends received deduction

3. Special Corporate Issues • Corporate deduction for charitable contributions may not exceed 10% of taxable income before charitable contributions • Dividends Received Deduction • Exception to double taxation for corporate shareholders • DRD = 70% of dividends received from less than 20%-owned corporations, 80% for greater than 20%-owned corporations and 100% for affiliated groups

4. Corporate Issues continued • Page 1 of corporate tax return reports taxable income • Balance sheet reported in corporate tax return is typically book (GAAP) basis • Schedule M-1 of corporate tax return requires reconciliation from book (GAAP) income to taxable income before DRD and NOL deductions

5. Corporate Issues continued • Consolidated Tax Returns • Affiliated group may elect to file one return • An affiliated group exists if: • A parent corporation owns at least 80% of the stock of at least one subsidiary, and • At least 80% of the stock of each other corporation is owned by other group members • Advantages: • Offset income and gains of one member against losses of another • Defer intercompany gains

6. Corporate Tax Liability • Regular tax - progressive rate structure • Credits against regular tax • Non-refundable, excess may be carried forward • provide incentive to invest in socially or economically desirable activities by reducing tax cost (increasing after tax return) from investment • Personal Service Corporation • Regular corporation in which performance of personal services is the principal activity and the services are performed by owner-employees who own more than 10% of the stock • PSCs are taxed at a flat rate of 35%

7. Alternative Minimum Tax • Intent: insure that taxpayers with substantial economic income pay some minimum amount of federal income tax • Approach: dual tax system - compute ‘alternative minimum taxable income’ and ‘alternative minimum tax liability’ • Exemption: average annual gross receipts less than $7.5M

8. Calculating the AMT

9. AMT Adjustments • Represent timing differences between regular taxable income and alternative minimum taxable income - will eventually reverse, perhaps over several periods • Examples: • Differences between MACRS and ADS depreciation amounts • Completed-contract method • Amortization of pollution control facilities

10. Tax Preferences • Preferences are always positive additions to AMTI • Examples: • Tax-exempt interest income from private activity bonds - municipal bonds issued to fund non-government activities • Percentage depletion in excess of cost basis

11. AMT NOL Deduction • AMT NOL amount computed using alternative taxable income approach • Deduction limited to 90% of AMTI before the AMT NOL • Example: If AMTI before consideration of any NOL is $100,000, the maximum allowable AMT NOL deduction is $90,000.

12. AMT Exemptions, Tax Rate, Credits and Liability • Corporate exemption amount: $40,000, phased out for AMTI over $150,000 • Corporate AMT tax rate: 20% • AMT Tax Credits • Foreign tax credit • Credit may only offset 90% of tentative AMT • Tentative AMT is compared to regular tax • If Tentative AMT > regular tax, then AMT liability = Tentative AMT - regular tax • Total tax liability equals greater of Tentative AMT or regular tax

13. Minimum Tax Credit • A minimum tax credit is generated in any year in which Tentative AMT exceeds regular tax • A minimum tax credit may be carried forward and used in any year in which regular tax exceeds Tentative AMT, to reduce tax liability at most by the amount of such excess

14. Tax Planning Implications of the AMT • Generally, the attractiveness of various tax incentives and the after-tax returns of tax-favored activities are reduced for taxpayers subject to AMT • For decision-making purposes, a taxpayer subject to AMT should consider their marginal AMT tax rate, not the marginal regular tax rate

15. Payment and Filing Requirements • Return due 3 1/2 months after end of year • automatic 6 month extension available • Taxes paid in quarterly installments, due 15th day of 4th, 6th, 9th, and 12th months of taxable year • To avoid underpayment penalties • required installments must equal at least 100% of final tax liability • safe harbor for small corporations (< $1M taxable income): 100% of previous year’s tax

16. Distributions to Investors • Payments to corporate creditors • Interest element is tax deductible by corporation, taxable income to creditor recipient • Payments to corporate shareholders • Not deductible by corporation • Payments out of corporate earnings and profits are taxable to shareholder recipient • Payments in excess of corporate earnings and profits generally treated as nontaxable return of investment to shareholder recipient