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Corporate Taxation
SUNY Buffalo Law School
Battaglia, Paul

Class 1: Introduction
Choice of Business Entity
What considerations affect decision (other than tax)?
·         Liability
o   corporations – limited to extent of investment
·         Filing/Reporting
o   LLC – publication requirement (NY)
·         Transferability of Individual Interest
o   corporations – shares are freely transferable
·         can be restricted through buy/sell or shareholder agreements
o   partnership – usually cannot be transferred w/o the consent of partnership
·         Continuity of Business Interest
o   corporation – perpetual
o   death/removal of partner à termination of the partnership (can be reformulated)
·         Centralization of Management
o   Board of Directors
·         Until 10 years ago, if an entity had 3 or more of these “corporate characteristics” à it would be classified as a corporation for federal tax purposes, regardless of state law
o   IRS recognized that this had become an essentially elective system through careful drafting à adopted check the box regulations where an entity can designate how it will be taxed
Check The Box Regulations
·         most new unincorporated entities will be classified as a partnership for federal tax purposes unless it elects to be an association taxable as a C-corp
·         §7701 defines a © to include “associations, joint-stock companies and insurance companies.”
·         These regulations only apply to entities that are separate from their owner/s
·         foreign organizations from certain jurisdictions will automatically be classified as a©
o   otherwise they are classified by certain rules (see p47)
·         If an entity makes a classification election, it cannot make a new election for 60 months
o   Elective Re-Classifications (see p48)
·         Publicly Traded Partnerships (PTP) – will be treated as ©
Double Tax Regimen of Subchapter C
                                Example
A&B Corp. earns 100 in profit
taxed at the corporate level: $100 x 34% = $34 paid in tax
Assume that A&B Corp pays the rest of profit in dividends: $66 x 15% = $9.90 paid in tax
(A & B each pay individual rate of 15% on $33)
TOTAL TAX: $43.90
·         Beginning in 2003, and sunsetting in 2009, dividends are taxed at 15%
·         The second level of tax (personal level) is only triggered by the voluntary declaration of a dividend
                allows for deferralà before 2003, strong incentive to retain earnings & wait to sell                 shares
·         state taxes magnify the effect of this double-tax
Sub-Chapter S Corporations
“best of both worlds” à limited liability & pass-through taxation
·         only allowed for entities that meet certain requirements:
o   less than 100 shareholders
o   corporations, partnerships, LLCs cannot be shareholders
o   non-resident aliens cannot be shareholder
o   can only have 1 class of stock
§ but there can be voting/non-voting distinction in class
·         states typically do recognize the S election, either automatically or by a separate state election
·         character of gain/loss is determined at the corporate level
·         S-corps are subject to all of the rules of Subchapter C, as long as they do not conflict w/ Subchapter S
Class 2: Policies Affecting Sub-Chapter C
Double Tax
·         Criticisms:
1.       complexity
2.       bias against corporate investment
3.       bias in favor of excessive debt financing in C-corps
4.       bias in favor of retained earnings vs. paying a dividend
·         Tax Reform Act of 1986 (strengthened the double tax)
·         Liquidation of a Corporation:
§ before 1986, there was non-recognition of gain upon the liquidation of the assets of a corp at the corporate level . The shareholder just took a FMV basis in each asset, and only had to pay tax on the gain (§336)
§ before 1987, assets sold in anticipation of liquidation also received this treatment (§337 [repealed])
§ 1986 à these transactions are now taxed at the corporate level as well as the individual à EXIT TAX
·         2003 – first erosion of the double tax regimen à dividends are taxed at capital gains rate à less incentive to retain earnings rather than pay dividend
Taxation of Ordinary Income
·         rate differential à allowed for deferral
·         in the past, when individual rates were as high as 70%, the corporation acted as a tax shelter (its highest rate was 46%) à allowing deferral
·         as the individual rate began to fall, the C-corp became less attractive à today individual rate (35%) 12≈’ type=”#_x0000_t75″> the corporate rate (34%)
Preferential Capital Gains Rates
·         led to an accumulation strategies
o   before 2003, when dividends were t

                                15%
$50,001-75,000                        25%
$75,001-10,000,000                34%
12>$10,000,000′ type=”#_x0000_t75″>                     35%
o   §11(b) imposes additional tax on portions of income to deter profitable ©s from enjoying lower graduated rates à called tax “bubbles”
§ §11(b)(2) qualified personal service corporations (defined §448(d)(2)) are subject to a flat 35% rate
·         Determining Taxable Income
o   §63(a) – “gross income minus deductions allowed”
o   © receive no personal expenses or deductions
§ but §162 allows virtually all ordinary expenses in the pursuit of profit to be deducted – w/ some limitations on amounts (ex. charitable donations limited to 10% of income; public © cannot deduct 12>’ type=”#_x0000_t75″>$1million for otherwise reasonable executive compensation)
o   © receives no standard deduction
o   To prevent multiple taxation, © are allowed to deduct 70% of the dividends they receive from other ©s – paying 35% tax on the remaining 30% [§243] o   © may only deduct capital losses to the extent of capital gains à carry forward 5 yrs and carries back 3 yrs
o   §199 domestic production activities – tax breaks to stimulate job growth (p16-17)
o   Taxable Year
§ most can adopt either calendar or fiscal year
§ personal service © must generally use a calendar year unless they can show a business purpose (but see §444)
o   Method of Accounting – generally accrual method
§ §267 provides “forced matching rules” to keep © and shareholders from taking advantage of timing issues resulting from the cash vs. accrual methods of accounting
The Corporate AMT
·         a flat rate tax applied to a broader income base than is used for regular income tax
·         certain small © are exempt
·         all © are exempt from the AMT in their first year of existence
§56 lists the principal adjust