Per the text and IRC, losses and deductions of an S corporation pass through to the shareholders of the corporation and are limited to the shareholders’ basis in the S corporation. Suggest a plan for a client to increase the deductible pass through loss and deductions over the initial investment from a new wholly owned S corporation. In the case of an S corporation, the losses and deductions associated with it are passed to its shareholders at the end of every term or year. When the end comes, the corporation lists these as the taxable items and keeps a record of them each year for taxation purposes. Following the rule of loss and deduction, it becomes clear that loses are recognized at the end of each day. Loses are then allocated to individual shareholders on daily basis in accordance with their weightage of ownership of the company (Fass&Gerrard, 1987). If the shareholder’s income for a period is less and his losses are more than his income then the excess loss will be used to create an NOL associated with the shareholder. This excess loss can then be carried forward or backward on the shareholder’s account and can be set off accordingly. The loss limitation rule for shareholder states thatloses or deductions made in the account of individual shareholders are limited to the accumulated sum of the shareholder’s stock added to the direct indebtedness associated to the shareholder by the corporation. In addition to this, S corporations also face the BIG tax issue which basically is the Built in Gains tax together with the LIFO recapturing tax and income tax associated with passive investment. It must be noted that the LIFO and BIG taxes are payable by those companies that used to be C corporations before switching to S corporation. Coming to the passive investment taxation, it is applicable to firms that used to be C corporations and they brought their C corporation profits forward when they formed S corporations. It will be better if the corporation goes to the bank to borrow money as bank is a more reliable lending source.
Analyze the major advantages and disadvantages of using the plan you created on tax planning in the first part of this discussion for future years.
If the company is an S corporation, it will have some major advantages. The losses incurred by the corporation are passed on to the shareholders on daily basis which reduces the burden on the corporation. However, S corporation formation has a disadvantage as well. This disadvantage is that the corporation faces limitations in terms of passive activity which has its own rules to be applied. If the losses cannot be deducted presently, they are held back up to the time that the shareholder gets his share back in the stock. In terms of shareholders, there is a significant advantage arising from the S corporation method. This benefit is that if they have less income in one period and more losses, they can carry the loss backward or forward in accordance with what prefers them. In addition to this, they carry back period or the carry forward period is not limited by any time span. It can be carried back or carried forward for unlimited time. A relevant section addressing the issue of S corporation is that of section 465 of law. This section of the law states that the shareholder can avoid paying his loss in a particular period only if his loss cannot be covered by his income of a particular period.
Fass, P., &Gerrard, B. (1987). The S corporation handbook (1st ed.). New York, N.Y.: C. Boardman Co.
From the e-Activity, differentiate between the treatment of S corporation distributions from corporations having no earnings and profits, and corporations having accumulated earnings and profits. Suggest the most significant reason for the difference in the treatment of distributions. Justify your response. When an S corporation does not make any money or