Select Page

Comparative Taxation
South Texas College of Law Houston
Yamamoto, Kevin M.

Comparative Tax, Yamamoto, Summer 2013
 
 
Taxation of Business Organizations
Corporate-Shareholder Taxation
Overview of Corporate Tax Systems
What is a corporation?
·         Characteristics
o   Treated as a separate entity
o   Separation of ownership and control
o   Ownership of corporation is divisible
§  Stock
§  Equity
o   Ownership of corporation is transferrable and tradable
§  Highly liquid
§  Compare to a partnership which dissolves
o   Corporations have indefinite duration
o   Assets are separated from shareholders
§  Protects stability of organization
o   Corporations have limited liability
§3(b)
·         BWTC has a single bracket of taxation for entities, which is 30%
12(c). Entity
·         any corporation, cooperative, or other organization having legal status as a juridical person
·         any other organization carrying on a business, and
·         in the case of a nonresident person, any permanent establishment in Progresa
·         Flush Language: It does not include a pass-through or a proprietorship
Types of Tax Systems
·         Classic System
o   In classic system, two levels of taxation
§  On corporation
§  Dividends as GI to shareholder
o   Generally, dividends are not deductible
o   Arguments against classical system
§  Corporation may withhold dividends
·         Pass-Through System
o   Income taxed directly to shareholders
o   Example: S-Corp
·         Imputed System
o   Tax paid by Corporation is imputed to S/H
§  i.e., S/H is credited part of the tax paid by the corporation
BWTC has a variation of an imputed tax system
·         under the BWTC, the corporation gets a credit under §164(b) as opposed to the S/H getting a credit in an imputed tax system
§14(a). Dividends
·         Elements
o   distribution by an entity
o   to a shareholder
o   with respect to the S/H’s equity interest in such interest
§164
·         Amounts paid under §164(a) are a credit under §164(b)
·         Elements
o    
Gross dividend = Actual Payment / .7
Problem 1. X Corp. is owned 100% by A, an individual. X Corp. was formed this year by A contributing PR 1,000,000 for all of X Corp.’s stock. In its first year, X Corp. has PR 1,000,000 of taxable income and it distributes PR 700,000 to A. Assume X Corp. and A both pay tax at a 30% rate. What result to X Corp. and A under the “classical” system for taxing corporations and shareholders, under a pass-through system, under an imputation credit system, and under the BWTC?
·         Classic System
o   Corporation
§  Corporate level income = 1mil
§  Has tax = 300k
§  Can distribute 700k to A
o   A
§  Would also be taxed
§  Tax amount = 210k
o   What’s left after taxes = 490k
§  Effective tax rate = 51%
·         Sole Proprietorship
o   If it were a sole proprietorship, A would have a TL of 300k
·         Pass-Through System
o   Corporation would have no tax liability
o   A would have 300k in TL
·         Imputation Credit System
o   Corporation
§  X Corp pays 300k in taxes
o   A
§  gets distribution of 1mil
§  has credit of 300k
§  has TL of 300k
§  has total tax due of 0
·         BWTC
o   §164(a) – X will have a 300k TL
o   §164(b) – X also has a 300k credit
o   A Would also have a 300k TL
§  Grossed-Up Amount
Problem 2. Assume X Corp., in the preceding problem above, has PR 1,000,000 of taxable income in its first year and makes no distributions. In its second year, X Corp. has no taxable income and it distributes PR 490,000 to A. What result to X Corp. and A under the BWTC? Can you figure out what is going on in the BWTC? If you were an entrepreneur in Progresa, what strategies would you follow if you formed a corporation and wanted to accumulate profits to build the capital of the business?
·         Y1
o   X Corp
§  X has TI of 1mil
§  TL = 300k (30% * 1mil)
o   A
§   
·         Y2
o   X Corp
§  X has 0 TI
§  TL = 0
§  Grossed Up Dividend = 490k / .7 = 700k
·         §164(a) = 700k * 30% = 210k
§  Under §164(b), the credit would be for Y2, but there is no income
·         Assuming there is no income in Y3, then they credit would be lost
·         If distribution had taken place in Y1, tax paid would be 300k
·         By waiting to pay the distribution in Y2, X has an additional 210k, thus 510k total
·         BWTC is trying to encourage distributions
Defining Entities Subject to Tax
§12(c) – Entity
·         Tax Rate = 30%
§12(f) –

nsfers PR 20,000 cash and machinery (fair market value PR 80,000; basis PR 40,000) for 100 shares of X preferred stock. What are the tax consequences of these exchanges to A, B, and X Corp.?
·         A
o   §52(c)
§  Gain = 100k – 70k = 30k
§  Must assume that the value given is equal to the value received
o   §101
§  he contributed capital
§  in exchange for interest
§  control??
·         §105(b)
o   “person or persons”
o   A & B are taken together
§  They control 100%
§  Thus, no gain recognized yet
o   Basis
§  70k
·         B
o   §52(c)
§  Gain = 80k – 40k = 40k
§  Must assume that the value given is equal to the value received
o   §101
§  he contributed capital
§  in exchange for interest
§  control??
·         §105(b)
o   “person or persons”
o   A & B are taken together
§  They control 100%
§  Thus, no gain recognized yet
o   Basis
§  60k
·         40k machine + 20k cash
Problem 5. C, D, and E agree to form Y Corp. C will contribute land to Y in exchange for 50 shares of Y common stock, D will contribute equipment to Y in exchange for 25 shares of Y common stock, and E will agree to manage Y’s business for the next five years in exchange for 25 shares of Y common stock. Will C, D, and E be taxed on their contributions to Y Corp.? Is there a better way for the shareholders to structure their arrangement?
·         C & D
o   Look to §52
o   §101 to avoid gain
§  Not satisfied because they control 75% and you need 80%
o   Thus, any gain/loss would be recognized under §52(a)
·         E
o   §101 does not apply – no capital contribution (he gave services)
·         To avoid this result, E should have contributed an amount to capital
o   How much is required?
§  In the US, it’s 10%
§  BWTC has no minimum amount