Cover

Title Page

Copyright Page

Dedication

Preface

About the Author

Acknowledgments

Contents

Contents in Detail

Chapter 1—Tax Considerations in Electing S Corporation Status

¶101 Introduction

¶102 Advantages of Having an S Corporation

.01 Tax-Free Contribution to the S Corporation

.02 Protection from Creditors

.03 Avoidance of Double Taxation

.04 No Recharacterization of Pass-Through Items

.05 Immediate Deduction for Losses

.06 No Alternative Minimum Tax

.07 No Personal Holding Company Tax or Accumulated Earnings Tax

.08 One Level of Taxation in the Sale of a Business

.09 Distribute Earnings Free of FICA, FUTA, and Employment Taxes

.10 Create Capital Gains for a Shareholder by Borrowing Money

.11 Create Gains for a Shareholder by Distribution of Appreciated Property

.12 Shareholders Allowed to Redeem Stock at Death with Impunity

.13 One Level of Taxation on Disallowed Travel and Entertainment Expenses

.14 Sale of a Residence

.15 Income and Estate Tax Planning

.16 ESOP Planning

.17 Code Sec. 199 Deduction

¶103 State Issues

.01 State Tax Issues

.02 Operating a Business for State Tax Purposes as a Partnership, but for Federal Tax Purposes as an S Corporation

.03 Location of the Domicile of the S Corporation and Its Shareholders

Chapter 2—Requirements to Be an S Corporation

¶201 Basic Requirements

¶202 Counting the Shareholders

.01 Meeting the 100-Shareholder Limit

.02 Stock Held by a Husband and Wife

.03 Stock Held with Children, Grandchildren, or Parents

.04 Stock Held by a Nominee or Agent

.05 Stock Held by a Custodian

.06 Stock Held by Unmarried Joint Tenants and Tenants in Common

.07 Beneficial Ownership

.08 Family Members Treated as One Shareholder

¶203 Eligible Shareholder Entities

.01 Estates

.02 Six Types of Trusts

.03 Bankrupt Shareholders and Bankruptcy Estates

.04 Charitable Organizations

.05 Employee Benefit Trusts

.06 Disregarded Entities—Limited Liability Companies

.07 IRAs Can Be Bank Shareholders

¶204 Ineligible Shareholder Entities

.01 Nonresident Aliens

.02 Nonqualifying Trusts

.03 Partnerships and Limited Liability Companies (LLCs)

.04 C Corporations

.05 Individual Retirement Accounts (IRAs)

.06 Overcoming Ineligibility

¶205 Owning C Corporations and Being a Member of a Controlled Group

.01 Owning C Corporations

.02 Transactions with a C Corporation Subsidiary

.03 Tax Consequences of Being a Member of a Controlled Group

.04 Tax Rates as a Member of a Controlled Group

.05 Intercompany Loans from a C Corporation to an S Corporation to Create Basis for a Shareholder to Recognize Losses from Operations

¶206 Eligible Corporations

.01 A Business Operating as a Partnership for State Tax Purposes, but as an S Corporation for Federal Tax Purposes, Qualifies as a Domestic Corporation under Code Sec. 1361(b)(1)

¶207 Ineligible Corporations

¶208 One-Class-of-Stock Requirement

.01 Voting and Nonvoting Common Stock

.02 What Is and Is Not a Second Class of Stock

.03 Other Issued Instruments, Obligations, or Arrangements

.04 Call Options

.05 Debt

.06 Inadvertently Losing S Status

.07 Correcting Violations to Not Lose S Status

.08 Changing from S Status

.09 Restricted Stock

.10 Contingent Sales of Stock; Earn Outs

¶209 Compliance with State Laws Regarding S Corporations

¶210 S Corporate Shareholders Owe a Fiduciary Duty to the Corporation and Each Other

Chapter 3—Trusts That Qualify as S Corporation Shareholders

¶301 Six Types of Eligible Trusts

.01 Code Sec. 1411’s Effect on Trust Operations

.02 Material Participation of a Trustee for Purposes of Satisfying Code Secs. 469 and 56(b)

¶302 Grantor Trusts

.01 Qualifications of Grantor Trusts

.02 Characteristics of a Grantor and Trust

.03 Example of Grantor Trusts

¶303 Trusts Owned by a Beneficiary (Code Sec. 678 Trusts)

.01 Qualifications of Trusts Owned by a Beneficiary

.02 Characteristics of a Beneficiary and Trust

.03 Reasons for Code Sec. 678 Trusts

¶304 Testamentary Trusts

.01 Reasons for Testamentary Trusts

.02 Characteristics of Testamentary Trusts

.03 Advantages of Testamentary Trusts

¶305 Voting Trusts

.01 Qualifications of Voting Trusts

.02 Characteristics of Voting Trusts

.03 Advantages of Voting Trusts

¶306 Electing Small Business Trusts (ESBTs)

.01 History of ESBTs

.02 Qualifications of ESBTs

.03 Characteristics of ESBTs

.04 Disadvantages of ESBTs

.05 Conversion of an ESBT to a QSST

.06 Deductibility of Interest Expense on Indebtedness Incurred by an Electing Small Business Trust to Acquire S Corporation Stock

.07 The Effect That Code Sec. 1411 Has on Electing Small Business Trust Operations

¶307 Qualified Subchapter S Trusts (QSSTs)

.01 History of QSSTs

.02 Qualifications of QSSTs

.03 Characteristics of QSSTs

.04 Disadvantages of QSSTs

Chapter 4—Filing of an S Corporation Election and Tax Return

¶401 Filing Form 2553

.01 Tax Years Covered

.02 Notification of S Status

.03 When to File Form 2553

.04 Errors in Filing Form 2553

.05 S Status Requirements Must Be Met During Entire Tax Year

.06 Reelecting S Status After Prior Termination

.07 Existing S Corporations

.08 Entity Classification—the “Check-the-Box” Regulations, Form 8832

¶402 Shareholders Must Consent to an S Election

.01 All Shareholders Must Consent

.02 Signing the Shareholders’ Consent Statement

.03 Consent Extensions

¶403 Who Must Sign a Shareholders’ Consent Statement

.01 Stock Held by a Nominee

.02 Minor’s Stock Held by a Custodian

.03 Joint Tenants

.04 Spouses

.05 Community Property

.06 Estates

.07 Voting Trusts

.08 Grantor Trusts

.09 Testamentary Trusts

.10 Trusts Owned by the Beneficiary (Code Sec. 678 Trusts)

.11 Qualified Subchapter S Trusts (QSSTs)

.12 Bankrupt Shareholders

.13 Gifts of S Corporation Stock

.14 Conditional Sales of Stock

.15 Incompetent Individuals

.16 Employee Stock Ownership Plans (ESOPs)

.17 Charitable Organizations

.18 Qualified Subchapter S Subsidiaries (QSubs)

.19 Corporate Officers

.20 Family Member Shareholder Ownership

.21 IRA Bank Shareholders

¶404 Considerations Before Converting a C Corporation to an S Corporation

.01 Shareholder Loans from Retirement Plans

.02 Accounting Method

.03 General Business Credit

.04 Permitted Tax Year

.05 Tax on Passive Investment Income and Loss of S Status

.06 Loss of Fringe Benefits

.07 Tax on Built-In Gains

.08 No Carryforward or Carryback of Losses and Credits

.09 C Corporation Debt

.10 Investment Interest Expense

.11 Alternative Minimum Tax

.12 Tax Year

.13 Conversion to an S Corporation Will Allow Shareholders to Recognize C Corporation Passive Losses on Disposition of Passive Activity

.14 Code Sec. 172(b)(1)(H)’s Special Carry Back Provision

¶405 Filing an S Corporate Return

.01 Filing the Form 1120S

.02 Signature on the Return

.03 Electronic Filing of Form 1120S

.04 Tax Shelter Reporting

.05 Penalties for Failing to File an S Corporate Return

Chapter 5—Accounting Methods and Tax Years of S Corporations

¶501 Accounting Method Choices

.01 Deductibility of Expenses and Interest

.02 Change of Accounting Method When Converting to S Corporation

.03 Cash Method of Accounting

¶502 Calendaror Fiscal-Year Reporting

.01 Selection Considerations

.02 Calendar-Year Reporting

.03 Fiscal Year Reporting

.04 Code Sec. 444 Fiscal Years of September 30, October 31, or November 30

Chapter 6—Income and Loss

¶601 Income Taxation of an S Corporation

.01 Preparation of the Form 1120S

¶602 Separately Stated Items

.01 Alternative Minimum Tax

.02 Passive Loss Rules

¶603 Nonseparately Stated Items

.01 Corporation Gross Income

.02 Special Situations

¶604 Elections Regarding Gross Income

.01 Elections Made at the Corporate Level

.02 Elections Made at the Shareholder Level

¶605 Capital Gains and Losses

.01 Reported on Schedule D

.02 Code Sec. 1231 Transactions

.03 Tax-Exempt Income

¶606 Dealer Transactions

¶607 Related-Person Transactions

¶608 Property Distributions to Shareholders

.01 Distributing Appreciated Property

.02 Distributing Depreciated Property

¶609 Earnings and Profits

.01 When an S Corporation Can Have Earnings and Profits

.02 Earnings and Profits Can Penalize an S Corporation

.03 Methods to Eliminate Earnings and Profits

.04 Methods to Reduce Earnings and Profits

.05 Elimination of All Earnings and Profits Attributable to Pre-1983 Years for Certain Corporations

¶610 Cancellation of Indebtedness

.01 Income Reporting of a Debt Discharge

.02 Reduction of Taxpayer Attributes Due to Cancellation of Indebtedness

.03 Definition of Insolvency for Cancellation of Indebtedness Income Purposes

.04 Reduction of Tax Attributes and Basis

.05 General Rules Regarding Discharge of Indebtedness

.06 Contribution of Debt to an S Corporation—Code Sec. 108(d)(7)(C)

.07 Qualified Real Property Business Indebtedness

.08 Discharge of Indebtedness Arising from Purchase or Exchange of an S Corporation of Its Own Debt Obligations at a Discount—Code Sec. 108(i)

.09 Discharge of a Shareholder’s Debt to the Corporation

¶611 Recharacterization of Capital Transactions

¶612 Effect That Bankruptcy or Insolvency Can Have on an S Corporation

.01 Bankruptcy Abuse Prevention and Consumer Protection Act of 2005— Super Discharge Eliminated

¶613 Code Sec. 199—Domestic Manufacturing Deduction

¶614 Code Sec. 172(b)(1)(H)—Carryback for Net Operating Losses

¶615 Patient Protection and Affordable Care Act of 2010

.01 Health Insurance Informational Reporting

.02 Additional 0.9% Medicare Tax

Chapter 7—Deductible Expenses

¶701 Types of Deductible Expenses

.01 Reimbursable Expenses

.02 Capitalization of Expenses

¶702 Interest Expense Paid on Investment Debts

¶703 Charitable Contributions

.01 Special Rule for Contribution of S Corporate Property

.02 Recapture of Tax Benefit on Donated Property Not Used for Exempt Purposes

.03 Qualified Appraiser Defined for Charitable Purposes

.04 Contributions of Real Property Made for Conservation Purposes

.05 Fractional Interests

.06 Contributions of S Corporate Stock

¶704 Taxes

.01 Foreign Taxes

.02 State Income Taxes

¶705 Trade or Business Expenses

¶706 Fringe Benefits

.01 Partnership Benefit Rules

.02 Definition of 2 Percent Shareholders

.03 Travel and Entertainment Expenses

.04 Contributions to an Educational IRA

¶707 Retirement Plans

.01 5-Percent-or-More Shareholder-Employee-Participants

.02 Unreasonable Contributions

.03 Tax Planning with Retirement Plan Assets

.04 Individual Retirement Accounts (IRAs)

.05 Employee Stock Ownership Plans (ESOPs)

.06 Code Sec. 401(k) Plans

.07 Diversification Requirements for Defined Contribution Plans

.08 Rollovers of Retirement Accounts by Non-Spouse Beneficiaries

.09 Direct Rollovers from Eligible Retirement Plans to Roth IRAs

¶708 Organizational Expenses and Start-up Expenses

.01 Organizational Expenses

.02 Start-up Expenditures

¶709 Election to Expense Recovery Property (Code Sec. 179)

.01 Grantor Trusts

¶710 At-Risk Loss Limitations

.01 Deduction of Suspended Code Sec. 465 Losses on Conversion of a C Corporation to an S Corporation

¶711 Hobby Losses

¶712 Losses and Expenses Incurred in Transactions with Shareholders

.01 Losses

.02 Suspension of Expenses and Interest

¶713 Vacation Homes, Personal Residences, Boats, and Recreational Vehicles

¶714 Corporate Interest

.01 Proper Reporting

.02 Shareholder Acquisition of Stock Using Debt to Finance the Acquisition

.03 Passive Loss Rules

.04 Tax-Exempt Obligations

.05 Personal Interest

.06 Interest Paid or Incurred During Construction

.07 Interest Expense Allocated to Debt-Financed Distributions

¶715 Legal Expenses and Accounting Fees

¶716 Reasonable Compensation

.01 Salaries or Distributions on Stock

.02 Reasonable Salaries

.03 Tax Advantages Over Partnerships and LLCs

.04 Compensation-Related Deductions

.05 S Corporation’s Income from a Personal Service Partnership Is Not Subject to Self-employment Tax under Code Sec. 1402

.06 Payment Formulas Regarding Compensation

¶717 Meal and Entertainment Expenses

¶718 Nonbusiness Bad Debts

¶719 Oil and Gas Depletion

¶720 Golden Parachute Payments

.01 Background

.02 S Corporations Not Subject to Golden Parachute Payments

¶721 Health Savings Accounts (HSAs)

.01 Definition of HSA

.02 Qualification for an HSA

.03 High Deductible Health Insurance Plan (HDHP)

.04 Amount of Contribution

.05 Qualified Medical Expenses

.06 Employer Contributions

.07 S Corporation Contributions to HSAs

.08 Trustee Rollover of IRAs to HSAs Permitted

¶722 Code Sec. 199—Deduction Relating to U.S. Production Activities

.01 Amount of Deduction

.02 W-2 Wage Limitation

.03 Definition of “Qualified Production Activities Income” (QPAI)

.04 Cost of Goods Sold (CGS) Allocable to DPGR

.05 Allocation of Gross Receipts between DPGR and non-DPGR

.06 Domestic Production Gross Receipts (DPGR)

.07 Qualified Production Property (QPP)

.08 Definition and Special Rules

.09 Pass-Through Entities

.10 S Corporations

.11 Trade or Business Requirements

.12 Application to Individuals

.13 Alternative Minimum Tax

.14 Add-Backs

¶723 Deferred Compensation Plans

.01 Definition of “Deferred Compensation Plan”

.02 Code Sec. 409A’s Provision to Curtail Abuse with Deferred Compensation Plans

.03 Plans Covered by Code Sec. 409A

.04 Stock Appreciation Rights

.05 Partnership Transactions

.06 Distributions

.07 Election Rules

.08 Funding Rules

.09 Other Rules

.10 Aggregation Rules

.11 Reporting Requirements

.12 Effective Date

.13 Planning Opportunities with Deferred Compensation Situations

Chapter 8—Corporate Income Taxes

¶801 Corporate Tax Liabilities

¶802 Built-In Gains Tax

.01 Background and Net Recognized Built-in Gains

.02 Comparison to the Passive Investment Income Tax

.03 Computing the Built-In Gains Tax

.04 Determining Net Recognized Built-In Gain

.05 Determining Net Unrealized Built-In Gain

.06 Income Recognition Events

.07 Inventory

.08 Discharge of Indebtedness and Bad Debts

.09 Completion of Contract

.10 Installment Sales

.11 Partnership Transactions

.12 Limitations on Partnership Recognized Built-In Gains and Losses

.13 Partnership Dispositions and Small Interests

.14 Computing the Net Recognized Built-in Gain

.15 Deductions and Credits

.16 Transfer of Assets from C Corporations to S Corporations

.17 Anti-Stuffing Rules

.18 Tax Planning

.19 Passive Investment Income Tax and the Built-in Gains Tax

.20 Reporting the Built-In Gains Tax

.21 Estimated Tax Payments

.22 Premium Payment for an Asset; Use of Minority Discount for Code Sec. 1374 Tax Computation

¶803 General Business Credit Recapture

¶804 Excess Net Passive Income Tax

.01 Passive Investment Income Coming from a C Corporation

.02 Taxation of Excess Net Passive Income

.03 Rents

.04 Royalties

.05 Interest

.06 Dividends

.07 Annuities

.08 Gross Receipts

.09 Net Passive Income

.10 Excess Net Passive Income

.11 Taxable Income

.12 Rate of Tax

.13 Computing the Excess Net Passive Income Tax

.14 Obtaining a Waiver of the Excess Net Passive Income Tax

.15 Reducing Pass-Through Passive Investment Income

.16 Reducing Earnings and Profits

.17 Tax Planning

¶805 S Corporations That Do Not Have Excess Net Passive Income

.01 S Corporations Without Earnings and Profits

.02 S Corporations Without Rents, Royalties, Interest, Dividends, and Annuities

.03 C Corporations That Convert to S Status Without Earnings and Profits

.04 S Corporations Without Taxable Income or Net Passive Investment Income

¶806 LIFO Inventory Recapture

.01 Means to Abate LIFO Inventory Recapture

.02 Penalties and Interest for Failure to Pay Code Sec. 1363(d)’s Tax Timely

.03 Sole Proprietorship Can Exclude LIFO Recapture under Code Sec. 1363(d) on Conversion to S Corporation

Chapter 9—Basis, Losses, and Passive Loss Rules

¶901 When a Shareholder Recognizes Income and Losses

.01 Taxable Year of Inclusion

.02 Closing the S Corporation’s Books

.03 Elections That Affect Income, Expenses, and Losses

.04 Year Items Are Included

¶902 Basis—The Road Map

.01 Importance of Basis

.02 Statute of Limitations Overstatement of Basis Is 3 Years

¶903 Stock Basis

.01 Original Basis

.02 Adjustments to Stock Basis

.03 Timing of Basis Adjustments

.04 Adjustment for Noncapital, Nondeductible Expenses

.05 Decrease in Shareholder’s Basis—The Spillover Rule

.06 Elective Ordering Rules for Stock Basis Adjustments

.07 Examples of Adjustments to Stock Basis

.08 Restoration of a Shareholder’s Stock Basis

¶904 Debt Basis

.01 Use of Loans to Deduct Losses

.02 Distributions and Debt

.03 Types of Shareholder Debt—Written Note and Open Account

.04 Consequences of Using Debt

.05 Debt and Shareholder Loans for Taking Losses

.06 Restoration of Debt Basis

.07 Date When Basis Adjustments of Debt Are Effective

.08 Tax Planning with Repayment of Debt

.09 Distributions to Reduce Stock Basis but Not Debt

.10 Loan from Related Entities

.11 Loans Must Have Economic Reality

.12 Risk in Shareholder Loans

.13 Imputation of Interest

.14 Treatment of Open Account Debt between an S Corporation and its Shareholders

¶905 Determination of a Shareholder’s Share of Items

.01 Separately Stated Items

.02 Nonseparately Stated Items of Income or Loss

.03 Separate Activities Requirement

.04 Aggregation of Deductions or Exclusions and Their Limitations

.05 Determination of a Shareholder’s Tax Liability

¶906 Limitations on Losses and Deductions

.01 Carryover of Disallowance

.02 Determination of Basis for Taking Losses

.03 Effect of Liquidations, Reorganizations, and Corporate Separations on Carryover of Losses

.04 Transfer of Suspended Losses Incident to Divorce

¶907 Creating Basis So That Current Losses Can Be Deducted

.01 Methods of Creating Basis

.02 Maintaining Accurate Records

¶908 Preparer Penalties

¶909 Alternative Minimum Tax (AMT) Effect on Basis

¶910 Applying Losses to Basis

¶911 Passive Income and Losses

.01 Introduction

.02 Definition of Passive Activity

.03 Definition of Activity

.04 Material Participation

.05 Rental Activities Classified as Passive Activity

.06 Portfolio Income

.07 Tax Treatment of Passive Losses and Credits

.08 Closely Held C Corporations

.09 Casualty Losses Are Not Subject to Passive Activity Loss Limitations

.10 Material Participation of a Trustee for Purposes of Satisfying Code Sec. 469

.11 Tax Planning under the Passive Activity Loss Rules

¶912 Post-Termination Transition Period (PTTP)

.01 Distributions

.02 Time Limit

.03 Recognition of Suspended Losses

.04 At-Risk Rules

Chapter 10—Distributions and the Accumulated Adjustments Account

¶1001 S Corporations—With and Without Earnings and Profits

.01 Distributions Are Dividends Under State Law

.02 Types of Distributions Covered

¶1002 S Corporations Without Earnings and Profits

.01 Rules for Distribution

.02 Timing of Distributions

.03 Fiscal-Year S Corporations

.04 Distribution Rules and Debt

.05 Share-by-Share Basis

¶1003 Earnings and Profits—Maintenance of AAA Account

.01 Accumulated Adjustments Account (AAA)

.02 AAA Required Only if Earnings and Profits

.03 Maintaining the AAA

.04 AAA Can Be Decreased Below Zero

.05 Distributions and the AAA

.06 Example of Maintaining the AAA

.07 Distributions in Excess of the AAA

.08 AAA Adjustment for Redemptions of Stock

.09 AAA in Reorganizations and Separations

.10 Life Insurance Proceeds Do Not Increase AAA

¶1004 Earnings and Profits

.01 Definition of Earnings and Profits

.02 Order Required for Distributions of Earnings and Profits

.03 Election to Bypass the AAA

¶1005 Distributions of Previously Taxed Income (PTI)

.01 Distribution Rules

.02 Election to Bypass the PTI Account

¶1006 Other Adjustments Account (OAA)

¶1007 S Corporation’s Payments on Behalf of Its Shareholders

Chapter 11—Income and Estate Tax Planning

¶1101 Tax Planning

¶1102 Providing Funds for the Elderly or Other Relatives

¶1103 Retirement Plans and Fringe Benefits

.01 Contributions to Retirement Plans

.02 Employee Stock Ownership Plan Trusts

.03 Contributions to Individual Retirement Accounts (IRAs)

.04 Credits for Establishing a Retirement Plan

.05 Rollovers of Retirement Plan and IRA Distributions

.06 Notice of Significant Reduction in Plan Benefit Accruals

.07 Borrowing from a Retirement Plan

.08 Employer Deduction for Code Sec. 529 Plans

.09 Employer-Provided Educational Assistance

.10 Child Care and Dependent Care Services Provided by the Employer

.11 Code Sec. 401(k) Plans

.12 SIMPLE Retirement Plans

.13 Simplified Employee Pension (SEP) Plans

.14 Travel and Entertainment Expenses

.15 Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) as it Affects Retirement Accounts, Code Sec. 529 Plans, and CESAs

.16 Rollovers of Retirement Accounts by Non-Spouse Beneficiaries

.17 Investment Advice and Prohibited Transaction Exemptions

.18 Modification of the Rules Regarding Hardship Situations and Unforeseen Financial Emergencies

.19 One-Participant Retirement Plan Exempt from Filing Form 5500 (the Annual Report) if the Plan’s Assets Are $250,000 or Less

.20 Simplified Annual Filing Requirements for Plans with Fewer than 25 Participants

.21 Computing High-Three Year Average Compensation for Benefit Limitation Purposes

.22 Conversion of Traditional IRAs and Qualified Retirement Plans to Roth IRAs

¶1104 Social Security Benefits

.01 Utilizing a Family S Corporation to Provide Social Security Benefits

.02 Earned Income from an S Corporation and Social Security

¶1105 Income Distributions Not Subject to Self-Employment Tax

¶1106 Shareholders’ Agreement

.01 Protection Against Termination of S Corporation Status

.02 Stock Transfers

.03 Stock Price Establishment

.04 Allowing Parents or Others Control

.05 Resolving Disputes Among Shareholders

.06 Minimum Distribution of Earnings

.07 Removing an Undesirable Shareholder

.08 Requiring Best Efforts and Covenant Not to Compete

.09 Ensuring Books Will Close on Sale or Transfer of Stock

.10 Appreciated Property

.11 Cross-Purchase vs. Redemption Agreements

.12 Effect of Code Sec. 409A on Shareholder and Redemption Agreements

¶1107 S Corporations Can Have an 80-Percent-or-More C Corporation and Wholly-Owned Subsidiaries

¶1108 Partner in a Partnership or Member in a Limited Liability Company (LLC)

.01 Reasons to Be a Partner or a Member

¶1109 Estate and Gift Tax Planning

.01 Estate Tax

.02 Estate Tax Planning Is Limited

.03 Code Sec. 2036 as It Applies to Closely-Held Family S Corporations

.04 Trusts

.05 Other Considerations

.06 Postmortem Estate Tax Planning

.07 Discounts to Reduce Gift Taxes on Stock Transfers

.08 Burden of Proof Regarding Valuation of Gifts—Code Sec. 7491

.09 Minority Discounts Allowed for Gift Transfer of Interest in a Family Business Even if the Family Business Assets Are Marketa

.10 Reciprocal Gifts

¶1110 Private Annuities and Cain Redemptions

¶1111 Gift Tax

¶1112 Sale of an S Corporation

.01 Introduction

.02 Sale of Assets

.03 Sale of Stock

.04 Reorganizations, Mergers, and Recapitalizations

¶1113 Small Business Stock Election (Code Sec. 1244)

¶1114 Below-Market Loans

.01 Loans from a Shareholder

.02 Loans to a Shareholder

¶1115 Conversion of S Corporation to C Corporation and/or Form 1040, Schedule C Sole Proprietorship

.01 Conversion of S Corporation to C Corporation

.02 Transforming S Corporation Earnings to a Form 1040, Schedule C Sole Proprietorship

¶1116 Audit Procedures for S Corporations

.01 Introduction

.02 Rules for Filing an S Corporation Return

.03 Not Filing an S Corporation Return

.04 Burden of Proof—Code Sec. 7491(a)

¶1117 Shareholder Debt—Pros and Cons

.01 Shareholder’s Debt Can Prevent Gain

¶1118 Tax-Exempt Bonds and Stocks

.01 Tax-Exempt Bonds

.02 Stock and Securities

¶1119 Family S Corporation Rules

.01 Introduction

.02 Origin of Rules

.03 Operation of Rules

.04 Parental Support Obligations

.05 Establishing and Operating a Family S Corporation

.06 Buyout of a Family Member

¶1120 Special Valuation Rules (Code Secs. 2701-2704)

.01 Introduction

.02 Transfers of Interests

.03 Buy-Sell Agreements and Options

.04 Lapsing Rights and Restrictions

.05 Trusts and Term Interest in Property

¶1121 Innocent Spouse Doctrine

¶1122 Effect of Death on Unused Losses

¶1123 Income in Respect of a Decedent (IRD)

¶1124 Gifted Stock Basis

.01 Donee’s Basis in Gifted Stock

.02 Beneficiary’s Basis in S Corporation Stock

¶1125 Life Insurance

.01 Tax Aspects of Life Insurance

.02 Utilization of Life Insurance for Redemptions of Shareholder’s Capital Stock—Interest at Death

.03 Cross-Purchase Agreements Utilizing Life Insurance

.04 Split Dollar Life Insurance

.05 Purchasing Life Insurance from a Qualified Retirement Plan

¶1126 Conversion of an S Corporation to an LLC to Obtain Partnership Taxation Benefits

.01 Keeping the S Corporation Alive and Having Family Members or Others as Members in the LLC

.02 Liquidation of the S Corporation to Form an LLC

.03 Analysis of the Liquidation of an S Corporation Followed by the Establishment of an LLC

.04 Transfer Taxes on Liquidation

.05 Merger of the Corporation into the LLC, with the LLC the Survivor

¶1127 Tax Structured Transactions; Liability Protection

.01 Codification of Economic Substance Doctrine and Imposition of Penalties

.02 Liability Protection

¶1128 S Corporation Can Make Contributions to Educational IRAs

¶1129 Tax Credit for Employer-Provided Child Care Facilities

¶1130 Travel and Entertainment Expenses

Chapter 12—Changes to S Corporations

¶1201 Termination and Revocation of S Status

¶1202 Voluntary Revocation of S Status

.01 Reasons for Revoking S Status

.02 Effective Date of Revocation

.03 Rescinding an Intentional Revocation

.04 Effect of Bankruptcy on Revocation

.05 Revocation and Re-Election of S Corporation Status

¶1203 Failure to Remain an S Corporation

.01 Rules for Termination

.02 Notification of Termination of S Status

¶1204 More than 25 Percent of Gross Receipts from Passive Investment Income

.01 Definition of C Corporation Earnings and Profits

.02 Elimination of C Corporation Earnings and Profits

¶1205 Waiver of Termination

.01 Inadvertent Termination

.02 Requesting Relief for Inadvertent Termination

.03 Invalid Elections

¶1206 Reelection After Termination

.01 Successor Corporations

.02 Reelecting S Status

.03 Grounds for Consent to Reelection

.04 Effect of Re-Election after Revocation of S Corporate Status

¶1207 Tax Effects of Termination

.01 S Termination Year

.02 Distributions During a Post-Termination Transition Period (PTTP)

.03 No Carryover of S Corporation Attributes

.04 C Corporation Taxes

¶1208 Sale of Stock

.01 Computing a Seller’s Gain and Loss

.02 Requirements for Making a Code Sec. 1377(a)(2) Election

.03 Character of a Seller’s Gain or Loss

.04 Tax Consequences of a Sale

.05 Reasons a Stock Sale Is Desired

.06 Removing Assets from a Sale

.07 Effect That a Sale of Stock Has on the Accumulated Adjustments Account and Retained Earnings and Profits

¶1209 Redemptions

.01 Code Sec. 302 Redemptions

.02 Qualifying for Capital Gain Treatment

.03 Tax Effect on Remaining Shareholders

.04 Computing a Shareholder’s Gain or Loss

.05 Code Sec. 303 Redemptions

.06 Redemptions Treated as Partial Liquidations

¶1210 Complete Liquidations

.01 Introduction

.02 Importance of Timing

.03 Installment Sales

.04 Effect of Code Sec. 1374

.05 Code Sec. 336 Rules

.06 Shareholder Treatment

.07 Corporate Reporting

.08 Recapture of Goodwill

.09 Code Sec. 338 Liquidations

¶1211 Reorganizations

.01 Introduction

.02 Code Sec. 368(a)(1)(A) Statutory Mergers and Consolidations (Type A Reorganizations)

.03 Code Sec. 368(a)(1)(B) Reorganizations

.04 Code Sec. 368(a)(1)(C) Reorganizations

.05 Code Sec. 368(a)(1)(D) Reorganizations

.06 Code Sec. 368(a)(1)(E) Recapitalizations (Type E Reorganizations)

.07 Code Sec. 368(a)(1)(F) Reorganizations

.08 Utilizing a Reorganization under Code Sec. 368(a)(1)(F) to Establish an S Corporation for Federal Tax Purposes, but a Partnership fpr state Tax Purposes

.09 Code Sec. 368(a)(1)(G) Reorganizations

.10 Code Sec. 368(a)(1) Statutory Merger and Consolidations Involving, inter alia a Wholly-Owned Pass-Through Entity

.11 Short Form Merger

Chapter 13—Comparisons to Other Business Entities

¶1301 C Corporations

.01 Definition of a C Corporation

.02 Numbers and Types of Shareholders

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Principal Advantages and Disadvantages

¶1302 S Corporations

.01 Definition of an S Corporation

.02 Numbers and Types of Shareholders

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Principal Advantages and Disadvantages

¶1303 Personal Service Corporations (PSCs)

.01 Definition of a Personal Service Corporation (PSC)

.02 Numbers and Types of Shareholders

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Principal Advantages and Disadvantages

¶1304 Limited Liability Companies (LLCs) with Two or More Members

.01 Definition of a Limited Liability Company (LLC)

.02 Numbers and Types of Members

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Principal Advantages and Disadvantages

¶1305 General Partnerships

.01 Definition of a General Partnership

.02 Numbers and Types of Partners

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Code Sec. 761(f)—Spouses Can Elect Out of Partnership Reporting

.11 Principal Advantages and Disadvantages

¶1306 Limited Partnerships

.01 Definition of a Limited Partnership

.02 Numbers and Types of Partners

.03 Estate and Income Tax Planning

.04 Medical Reimbursement Plan

.05 Income Tax Brackets

.06 Health, Welfare, and Retirement Plans

.07 Dividends-Received Deduction

.08 Ease of Formation

.09 Creditor Protection

.10 Principal Advantages and Disadvantages

¶1307 One-Member Limited Liability Companies (LLCs)

.01 Introduction

.02 Definition

.03 Situations Where One-Member LLCs Could Arise

.04 When Not to Operate as a One-Member LLC

.05 Taxation of One-Member LLCs

.06 Operation of One-Member LLCs for Individuals

.07 Like-Kind Exchanges

.08 Estate and Income Tax Planning

.09 Medical Reimbursement Plans and Medical Savings Accounts

.10 Liquidation and Dissolution

.11 Estimated Tax Payments

.12 Conversion of a One-Member LLC to a C or S Corporation or Partnership

.13 A One-Member LLC Can Be a Joint Venturer

.14 Tax Planning with One-Member LLCs

.15 S Corporation Can Have One-Member LLCs Instead of Subsidiaries or QSubs

.16 One-Member LLCs Can Be Useful for Exchanges

.17 One-Member LLCs Can Facilitate a Merger of S Corporations, Allowing Avoidance of Franchise Taxes

¶1308 Comparison Chart of Seven Business Entities

Chapter 14—Subsidiaries

¶1401 Introduction

.01 One-Member Limited Liability Companies—A More Flexible Alternative for Business Operations

¶1402 Qualified Subchapter S Subsidiaries (QSubs)

.01 Definition of a QSub

.02 Reasons for Establishing a QSub

¶1403 Four Requirements for the Establishment of a QSub

.01 Domestic Corporation

.02 Ineligible Corporation

.03 100 Percent of Stock Owned by Its S Corporation Parent

.04 Parent Must Elect QSub Treatment for Its Subsidiary

¶1404 Effect of a QSub Election—A Deemed Liquidation

.01 Timing of a Liquidation

.02 Coordination with a Code Sec. 338 Election

¶1405 Quirks of Liquidations Under Code Secs. 332 and 337

.01 Insolvent Subsidiaries

.02 Built-In Gains and How They Affect a QSub

.03 LIFO Inventory Recapture

.04 Inability to Use C Corporation Attributes

.05 Consolidated Return Issues

.06 Reg. § 1.1374-3(b)’s Relief for Duplicative Recognition of Built-In Gain in Transactions with QSubs

¶1406 Transitional Relief for All QSub Elections Effective Before January 1, 2001

¶1407 State Income Tax Issues

¶1408 Termination of a QSub Election

.01 Forming a New Corporation After Terminating a QSub Election

.02 Revoking a QSub Election

.03 Effective Date of Termination

.04 Effect of Terminating a QSub Election

.05 Alternatives to Creating a Taxable Termination

.06 Inadvertent Terminations

.07 Election After QSub Termination

.08 The Effect of Bankruptcy on Revocation of Qsub Status

¶1409 C Corporation Subsidiaries

.01 Consolidated Returns

.02 Dividends from C Corporation Subsidiaries

.03 Determination of Active or Passive Earnings and Profits

.04 Consolidated Groups

.05 Allocating Distributions to Active and Passive Earnings and Profits

¶1410 Tax Planning with Q Subsidiaries

.01 Formation of a Partnership or LLC with Another Taxpayer to Spread the Risk of QSub Operations

.02 Merger of a QSub into a One-Member LLC Owned by QSub’s Parent

¶1411 Merger of QSubs Under Code Sec. 368(a)(1)(A) with Other Entities

Chapter 15—Employee Stock Ownership Plans

¶1501 Features of Employee Stock Ownership Plans (ESOPs)

¶1502 Two Types of ESOPs

¶1503 General Requirements

.01 Code Sec. 401(a) Requirements

.02 Definition of Employer Securities

¶1504 ESOP Benefits

.01 Code Sec. 1042

.02 Estates Can Make the Sale to an ESOP

.03 30 Percent Ownership Rule

.04 Qualified Replacement Property

.05 Selling Shareholder’s Basis in Qualified Replacement Property

.06 Deferral Tax on Capital Gain

.07 Nonrecognition Events

.08 Restrictions When a Selling Shareholder or Member Remains a Plan Participant

.09 Security Laws and ESOPs

.10 Professional Corporations

¶1505 Elements of an ESOP

.01 General Requirements

.02 Allocation of Employer Contributions and Forfeitures

.03 Coverage and Participation Requirements

.04 Vesting

.05 Distribution of ESOP Benefits

.06 Mandatory Put Option and Required Diversification of Investments

.07 Valuation

.08 Excise Tax

¶1506 Leveraged ESOP

.01 Leveraged ESOPs Can Be Used for Merger Transactions

¶1507 Practicalities of ESOPs for S Corporations

.01 ESOPs Count as One Shareholder

.02 Restrictions in ESOP Formations and Operations

.03 Planning Opportunities

.04 Terminating S Status and Forming a C Corporation ESOP

.05 Charitable Organizations Selling Stock to an ESOP

¶1508 Prohibited Allocations of Stock in an S Corporation ESOP

.01 Definition of Prohibited Allocation

.02 Effect of a Prohibited Allocation

.03 Prevention of a Non-Allocation Year

.04 Determination of Non-Allocation Year

.05 Disqualified Persons

.06 Determination of Disqualified Persons on Person-by-Person Basis

.07 Synthetic Equity

.08 Avoidance or Evasion of Code Sec. 409(p)

.09 Application of Excise Tax

.10 Effective Dates

.11 ESOP Dividends May Be Reinvested Without Loss of Dividend Deduction

¶1509 Abusive Transactions

Chapter 16—The Effect That Code Sec. 1411 Has on S Corporate Shareholders

¶1601 Introduction

¶1602 Application to Individuals

.01 Non-Resident Aliens Married to an S Corporation Shareholder

.02 Calculation of Code Sec. 1411’s Tax

.03 Taxable Year of Less Than Twelve Months

¶1603 Application to Estates and Trusts

.01 Taxable Year of Less Than Twelve Months

.02 Exception for Certain Trusts

.03 Application to Electing Small Business Trusts, Charitable Remainder Trusts, and Bankruptcy and Foreign Estates

.04 Calculation of Undistributed Net Investment Income for Estates and Trusts

¶1604 Definition of Net Investment Income

.01 Gross Income Items Described in Code Sec. 1411(c)(1)(A)(i)

.02 Ordinary Course of a Trade or Business—Code Sec. 1411(c)(1)(A)(ii)

.03 Net Gain Described in Code Sec. 1411(c)(1)(A)(iii)

.04 Determination of Net Gain From Disposition

.05 Distributions From Trusts

.06 Properly Allocable Deductions

¶1605 Passive Activity Situations and Trade or Business of a Trader Trading in Financial Instruments or Commodities

.01 Passive Activity

.02 Trading in Financial Instruments or Commodities

¶1606 Income on Investment of Working Capital Subject to Tax

¶1607 Exception for Dispositions of Interests in Partnerships and S Corporations

.01 Introduction

.02 Mechanics of Code Sec. 1411(c)(4)

.03 Deemed Sale

.04 Special Situations—Code Sec. 338(h)(10) Sales; Installment Sales; and Sales by QSSTs

.05 Required Statements

.06 Examples to Illustrate the Application of the Deemed Sales Rules

¶1608 Code Sec. 1411 Does Not Apply to Distributions from Qualified Plans

¶1609 Controlled Foreign Corporations and Passive Foreign Investment Companies

¶1610 Regrouping for Taxpayers Subject to Code Sec. 1411

¶1611 Tax Planning under Code Sec. 1411

.01 Minimize MAGI and Employment Income Below the Threshold Amounts

.02 Eliminate Code Sec. 469’s Passive Income from Net Investment Income

.03 Group Passive Activities to Accomplish Material Participation

.04 Installment Sale

.05 Tax Exempt Income

.06 Eliminate Passive Activities at the S Corporate Level

.07 Code Sec. 1031 Exchange

.08 Trusts and Estates

.09 Shareholder Loans to S Corporation

Appendices

Appendix 1 Form 2553, “Election by a Small Business Corporation

Appendix 2 Consent to Election to Be Treated as an S Corporation

Appendix 3 §1368(e)(3) Election to Distribute Accumulated Earnings and Profits Before Accumulated Adjustments Account

Appendix 4 Shareholders’ Agreement

Appendix 5 Disposition of Stock Upon Shareholder’s Death—Valuation Language

Appendix 6 Resolution of Disputes

Appendix 7 Minimum Distribution

Appendix 8 Events Requiring Transfer of Stock

Appendix 9 Best Efforts Language

Appendix 10 Covenant Not to Compete Language

Appendix 11 Closing S Corporation Books on Sale of S Corporation

Appendix 12 Notice of Revocation of Subchapter S Election Under §1362(a)

Appendix 13 Consent to Election to Have Items Assigned Under Normal Accounting Rules—§1362(e)(3)(B)

Appendix 14 Election to Close Books Upon Termination of Interest by S Corporation Shareholder—§ 1377(a)(2)

Appendix 15 Shareholders’ Consent—§ 1377(a)(2)

Appendix 16 Election to Close Books Under Reg. § 1.1368-1(g)(2)(i)

Case Table

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Finding Lists

Index

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Back Cover