CH. 11 DSM - S Corporations

An accrual basis, calendar year S corporation borrows $10,000 on November 1, at a stated rate of 6%, from a cash basis shareholder who owns 5% of the corporation's stock. Full payment is due in one year of both principal and interest. What is the corporation's interest deduction for the year?

$0 Because of the related party transaction rules of Section 267, an S corporation cannot deduct interest expense until paid to the cash basis taxpayer.

Which of the following is NOT a requirement for an S corporation election? All shareholders must be individuals or partnerships. The corporation must be a domestic corporation or unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. The corporation may not be a financial institution that uses the reserve method to account for bad debts. The corporation must have only one class of stock.

All shareholders must be individuals or partnerships. -- S corporations cannot have partnerships as shareholders. Requirements for an S corporation include: The corporation must not have more than 100 shareholders. All shareholders must be individuals, estates, certain tax-exempt organizations, or certain kinds of trusts. None of the individual shareholders can be classified as a nonresident alien. The corporation must be a domestic corporation or an unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. The corporation must have only one class of stock

Which of the following is NOT a requirement for an S corporation election? The corporation must have only one class of stock. The corporation must be a domestic corporation or unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. All shareholders must be individuals or partnerships. The corporation may not be a financial institution that uses the reserve method to account for bad debts.

All shareholders must be individuals or partnerships. S corporations cannot have partnerships as shareholders. Requirements for an S corporation include: The corporation must not have more than 100 shareholders. All shareholders must be individuals, estates, certain tax-exempt organizations, or certain kinds of trusts. None of the individual shareholders can be classified as a nonresident alien. The corporation must be a domestic corporation or an unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. The corporation must have only one class of stock.

Which of the following is NOT a correct adjustment for basis in S corporation stock? Decrease stock basis for shareholder's pro rata release from S corporation liabilities. Decrease stock basis for distributions not included in shareholder income. Increase stock basis for any capital contributions during the year. Decrease stock basis for ordinary losses and separately stated capital losses.

Decrease stock basis for shareholder's pro rata release from S corporation liabilities. A shareholder's basis is not affected by their pro rata share of general S corporation liabilities, unlike the rules for a partnership. In an S corporation, shareholders are not legally responsible for the liabilities of the corporation.

Henry, Arlo, Remy, and Yvette are equal shareholders in HARY Corporation, an S corporation. HARY employs each of the owners, as well as 200 other employees. All employees receive group term life insurance, including the four shareholders. What is the proper treatment of the payment of premiums for life insurance for Henry?

Deductible by HARY, included in income by Henry The more-than-2%-shareholder rule requires that group term life insurance premiums, accident and health benefit plan insurance premiums and payments, meals and lodging furnished by the employer, and cafeteria benefit plans are taxable to shareholders, although still deductible by the corporation.

Which of the following is NOT an advantage of operating a business as an S corporation? Earnings of an S corporation are not taxed until they are distributed to shareholders. An S corporation is not subject to the personal holding company tax or accumulated earnings tax. The S corporation's income is exempt from the corporate income tax. S corporation earnings that pass through to individual shareholders are not subject to the self-employment tax.

Earnings of an S corporation are not taxed until they are distributed to shareholders. There are many advantages to operating a business as an S corporation. However, S corporation earnings are taxed in the year earned at the level of the shareholder. Shareholders may be eligible for the 20% qualified business income (QBI) deduction.

An S corporation files a tax return using ________. Form 8716 Form 444 Form 6709 Form 1120S

Form 1120S An S corporation files a tax return using Form 1120S (U.S. Income Tax Return for an S Corporation). It must be filed no later than the fifteenth day of the third month following the end of the tax year.

A corporation makes the S election by filing ________. Form 444 Form 6709 Form 2553 Form 8716

Form 2553 A corporation makes the S election by filing Form 2553 (Election by a Small Business Corporation).

Which of the following events would NOT terminate an S corporation election? Issuing a stock dividend Attaining a prohibited tax status Failing the passive investment income test for three consecutive years Creating a second class of stock

Issuing a stock dividend Many events can trigger the termination of an S corporation election. Events that could trigger termination are: exceeding the 100-shareholder limit having an ineligible shareholder own some of the stock creating a second class of stock attaining a prohibited tax status selecting an improper tax year failing the passive investment income test for three years. However, issuing a stock dividend will not trigger termination of the election.

At the beginning of the current year, Stephanie owns all of the stock in Gardiner Corporation, an S corporation, with a basis of $100,000. Gardiner owes Stephanie $25,000, evidenced by a note. For the current year, Gardiner reports an ordinary loss of $113,000. What is Stephanie's basis in the stock and the debt at the end of the current year?

Stock $0; Debt $12,000 The $113,000 loss reduces Stephanie's basis in the stock to $0 and the remaining $113,000 loss - $100,000 basis = $13,000 reduces the debt basis from $25,000 to $12,000.

At the beginning of the current year, Winona owns all of the stock in Tester Corporation, an S corporation, with a basis of $50,000. Tester owes Winona $10,000, evidenced by a note. For the current year, Tester reports an ordinary loss of $56,000. What is Winona's basis in the stock and the debt at the end of the current year?

Stock $0; Debt $4,000 The $56,000 loss reduces Winona's basis in the stock to $0 and the remaining $56,000 loss - $50,000 basis = $6,000 reduces the debt basis from $10,000 to $4,000.

Which of the following will NOT increase AAA for an S corporation with accumulated earnings and profits? Ordinary income Net short-term capital gains Net long-term capital gains Tax-exempt interest

Tax-exempt interest An S corporation's AAA balance is increased by ordinary income and separately stated income and gain items (except for tax-exempt income). It is reduced by distributions made from AAA, ordinary loss, separately stated loss and deduction items (except for those associated with tax-exempt income), and expenses not deductible in determining ordinary income and loss and not chargeable to the capital account.

Which of the following is NOT a requirement for an agreement to be treated as debt under the safe harbor, rather than a second class of stock for the purposes of an S corporation election? The interest rate and interest payments dates must not be contingent on profits, the borrower's discretion, or similar factors. The debt must not be convertible directly or indirectly into stock. The debt must represent and unconditional promise to pay a certain sum of money on a specified date or on demand. The creditor must be a C corporation eligible to be an S corporation shareholder.

The creditor must be a C corporation eligible to be an S corporation shareholder. Section 1361(c)(5) provides a safe harbor for straight debt instruments so that the debt is not treated as a second class of stock. There are four requirements: The debt must represent and unconditional promise to pay a certain sum of money on a specified date or on demand. The interest rate and interest payments dates must not be contingent on profits, the borrower's discretion, or similar factors. The debt must not be convertible directly or indirectly into stock. The creditor must be an individual, estate, or trust eligible to be an S corporation shareholder, or a nonindividual creditor actively and regularly engaged in the business of lending money.

All of the following are requirements for S corporations EXCEPT ________. none of the individual shareholders can be classified as a nonresident alien the corporation may not have more than one class of stock the corporation must not have more than 100 shareholders the corporation must be a domestic or foreign corporation

the corporation must be a domestic or foreign corporation An S corporation cannot be a foreign corporation. Requirements for an S corporation include: The corporation must not have more than 100 shareholders. All shareholders must be individuals, estates, certain tax-exempt organizations, or certain kinds of trusts. None of the individual shareholders can be classified as a nonresident alien. The corporation must be a domestic corporation or an unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. The corporation must have only one class of stock.

All of the following are requirements for S corporations EXCEPT ________. the corporation must not have investment income none of the individual shareholders can be classified as a nonresident alien all shareholders must be individuals, estates, certain tax-exempt organizations, or certain kinds of trusts the corporation must not have more than 100 shareholders

the corporation must not have investment income An S corporation is not barred from having investment income. There are three shareholder related requirements: The corporation must not have more than 100 shareholders. All shareholders must be individuals, estates, certain tax-exempt organizations, or certain kinds of trusts. None of the individual shareholders can be classified as a nonresident alien.

Murray Corporation, an S corporation, has the following items of income and expense for the current year: Sales revenue $100,000 Interest income 40,000 Passive income-related expenses 5,000 Other expenses 20,000 What is Murray's excess net passive income for the current year?

Murray's excess net passive income is calculated using the following formula: Net passive income x Passive investment income - 25% of gross receipts _____ Passive investment income Therefore, Murray's excess net passive income is: [($40,000 - 5,000) x $40,000 - (25% x 140,000)] / 40,000 = $4,375

Which of the following is NOT a disadvantage of operating a business as an S corporation? Shareholders in an S corporation are taxed on undistributed earnings. Income from an S corporation passed through to the shareholder may be taxed at a higher rate than a C corporation, where the first $50,000 of income is subject to a 15% marginal rate. Dividends received by the S corporation are not eligible for the dividends-received deduction. S corporations cannot be used to split income among family members.

S corporations cannot be used to split income among family members. While there are a number of disadvantages of operating a business as an S corporation, the ability to split income among family member is possible and represents an advantage of this form of ownership.

Which of the following items is NOT separately stated for an S corporation? Charitable contributions Dividend and interest income Net short-term capital gains and losses Salary and wage expenses

Salary and wage expenses S corporations are treated much like partnerships and report ordinary income and loss (which includes salary and wage expense) and a series of separately stated items, including net short-term capital gains and losses, charitable contributions, and dividend and interest income.

Which of the following is NOT a requirement for an S corporation election? The electing corporation must not own stock in a C corporation. The electing corporation must be a domestic corporation or unincorporated entity that elects to be treated as a corporation under the check-the-box regulations. The electing corporation may not be a financial institution that uses the reserve method to account for bad debts. The electing corporation must have only one class of stock.

The electing corporation must not own stock in a C corporation. S corporations can own the stock of a C corporation without any limitation of the percentage of voting power held. However, a C corporation cannot own the stock of an S corporation.

Which of the following is NOT a requirement for an unwritten advance from a shareholder to be treated as debt under the safe harbor rule for S corporations? The obligation must be expected to be repaid within a reasonable period of time. The obligation must be treated by debt both both parties. The obligation must not exceed $10,000. The obligation must be non-transferrable.

The obligation must be non-transferrable. Under the general rules for S corporations, debt is not treated as a second class of stock. A loan or advance issued by a shareholder but not evidenced by a written note may still be characterized as debt if the following requirements are met: the amount of the obligation does not exceed $10,000. the obligation is treated by debt by both parties. the obligation must be expected to be repaid within a reasonable period of time. However, there is no requirement that the obligation by non-transferrable.

Cat owns 100% of Nguyen Corporation (a calendar year S corporation). His basis at the beginning of the year is $20,000. In the current year, Nguyen Corporation has the following results: $10,000 ordinary income $5,000 long-term capital loss On November 1, Nguyen distributes $40,000 in cash to Cat. How much of the capital loss may Cat deduct in the current year, if any?

$0 The capital loss is deductible only to the extent that Cat has basis in the corporation. His $20,000 basis is increased by $10,000 ordinary income to $30,000. However, the $40,000 distribution reduces his basis to $0 and results in recognition of a $10,000 capital gain. Cat may not deduct the capital loss until he has adequate basis in Nguyen Corporation.

Min owns 100% of Small Corporation (a calendar year S corporation). His basis at the beginning of the year is $45,000. In the current year, Small Corporation has the following results: $20,000 ordinary income $5,000 long-term capital loss On November 1, Small distributes $70,000 in cash to Min. How much of the capital loss may Min deduct in the current year, if any?

$0 The capital loss is deductible only to the extent that Min has basis in the corporation. His $45,000 basis is increased by $20,000 ordinary income to $65,000. However, the $70,000 distribution reduces his basis to $0 and results in recognition of a $5,000 capital gain. Min may not deduct the capital loss until he has adequate basis in Small Corporation.

Diana owns 100% of Spanish Corporation (a calendar year S corporation). Her basis at the beginning of the year is $60,000. In the current year, Spanish Corporation has the following results: $80,000 ordinary income $10,000 long-term capital loss On August 1, Spanish distributes $20,000 in cash to Diana. What is Diana's basis in Spanish Corporation at the end of the year?

$110,000 Diana's $60,000 basis is increased by the $80,000 of ordinary income and reduced by the $20,000 distribution of cash. Since she has adequate basis ($60,000 + $80,000 - $20,000 = $120,000), her basis is further reduced by the $10,000 long-term capital loss to $110,000.

Shelley's beginning basis in her Alligator Corporation stock is $50,000. Shelley is the sole shareholder in Alligator, an S corporation. During the year, Shelley made an additional capital contribution of $10,000. Alligator Corporation's current year results include: Interest income $15,000 Ordinary income $100,000 Long-term capital loss $10,000 What is Shelley's basis in Alligator Corporation at the end of the year?

$165,000 Shelley's basis in Alligator Corporation is increased by her additional capital contribution as well as her share of ordinary and interest income and reduced by the long-term capital loss.

Grace and Ellen are shareholders of McDaniel Corporation, a calendar year S corporation. At the beginning of the current tax year, Grace owns 40% of the shares and Ellen owns the remaining 60% interest. On July 1 (the 182nd day of the year), Grace sells all of her shares to Ellen. At the end of the year, McDaniel Corporation reports ordinary income of $150,000. How much ordinary income, if any, is allocated to Grace for the current year? Round your answer to the nearest dollar.

$29,918 An S corporation's shareholders must report their pro rata share of the ordinary income or loss and separately stated items for the S corporation's tax year that ends with or within the shareholder's tax year, using the "per day/per share" method. Grace owns 40% of the stock for 182 of the 365 days in the year and then owns no stock for the remainder of the year, so her share of the partnership's ordinary income is $150,000 x 40% x 182/365 = $29,918.

At the beginning of the current year, Abby and Hannah are each 50% owners of Virtual Corporation, a calendar year S corporation. The company reports ordinary income of $390,000 for the year. On April 1, Abby sells her stock to Hannah. How much income is allocated to Abby under the general rule? Round your answer to the nearest dollar.

$48,616 Under the general rule, Abby is allocated ½ of the income earned ratably over her period of ownership, which was 91 days. Her share of the annual income is ½ share x 91/365 days x $390,000 = $48,616.

Norman Corporation, an S corporation, has the following items of income and expense for the current year: Service revenue $56,000 Dividend income 29,000 Passive income-related expenses 7,000 Other expenses 48,000 What is Norman's excess net passive income for the current year? Round your answer to the nearest dollar.

$5,879 Norman's excess net passive income is calculated using the following formula: Net passive income x (Passive investment income - 25% of gross receipts)/(Passive investment income) Therefore, Norman's excess net passive income is: ($29,000 - 7,000) x ($29,000 - (25% x 85,000))/(29,000) = $5,879

Briyana owns 100% of Special Corporation (a calendar year S corporation). Her basis at the beginning of the year is $80,000. In the current year, Special Corporation has the following results: $50,000 ordinary income $15,000 long-term capital loss On November 1, Special distributes $30,000 in cash to Briyana. What items of income will Briyana report on her tax return?

$50,000 ordinary income; $15,000 long-term capital loss Special's income and loss items pass through to Briyana, as she has adequate basis. The cash distribution reduces her basis, but does not trigger recognition of income.

At the beginning of the current year, Angel and Hui are each 50% owners of Virtual Corporation, a calendar year S corporation. The company reports ordinary income of $250,000 for the year. On May 31, Hui sells her stock to Sarah. How much income is allocated to Hui under the general rule?

$51,712 Under the general rule, Hui is allocated ½ of the income earned ratably over her period of ownership, which was 151 days. Her share of the annual income is ½ share x 151/365 days x $250,000 = $51,712.

At the beginning of the current year, Abby and Hannah are each 50% owners of Virtual Corporation, a calendar year S corporation. The company reports ordinary income of $390,000 for the year. On April 1, Abby sells her stock to Hannah. As of April 1, Virtual Corporation has earned $130,000. If the company makes a closing of the books election, how much income is allocated to Abby?

$65,000 If the corporation makes a closing of the books election, Abby is allocated her ½ share of the income for the period, $130,000 x ½ = $65,000.

At the beginning of the current year, Angel and Hui are each 50% owners of Virtual Corporation, a calendar year S corporation. The company reports ordinary income of $250,000 for the year. On May 31, Hui sells her stock to Sarah. As of May 31, Virtual Corporation has earned $150,000. If the company makes a closing of the books election, how much income is allocated to Hui?

$75,000 If the corporation makes a closing of the books election, Hui is allocated her ½ share of the income for the period, $150,000 x ½ = $75,000.

Jennifer's beginning basis in her Reader Corporation stock is $40,000. Jennifer is the sole shareholder in Reader, an S corporation. During the year, Jennifer made an additional capital contribution of $5,000. Reader Corporation's current year results include: Dividend income $10,000 Ordinary income $40,000 Short-term capital loss $20,000 What is Jennifer's basis in Reader Corporation at the end of the year?

$75,000 Jennifer's basis in Reader Corporation is increased by her additional capital contribution as well as her share of ordinary and dividend income and reduced by the short-term capital loss.

Diana owns 100% of Spanish Corporation (a calendar year S corporation). Her basis at the beginning of the year is $60,000. In the current year, Spanish Corporation has the following results: $80,000 ordinary income $10,000 long-term capital loss On August 1, Spanish distributes $20,000 in cash to Diana. What items of income will Diana report on her tax return?

$80,000 ordinary income; $10,000 long-term capital loss Spanish's income and loss items pass through to Diana, as she has adequate basis. The cash distribution reduces her basis, but does not trigger recognition of income.

Briyana owns 100% of Special Corporation (a calendar year S corporation). Her basis at the beginning of the year is $80,000. In the current year, Special Corporation has the following results: $50,000 ordinary income $15,000 long-term capital loss On November 1, Special distributes $30,000 in cash to Briyana. What is Briyana's basis in Special Corporation at the end of the year?

$85,000 Briyana's $80,000 basis is increased by the $50,000 of ordinary income and reduced by the $30,000 distribution of cash. Since she has adequate basis ($80,000 + $50,000 - $30,000 = $100,000), her basis is further reduced by the $15,000 long-term capital loss to $85,000.

Marisa and Jonathan are shareholders of McDaniel Corporation, a calendar year S corporation. At the beginning of the current tax year, Marisa owns 70% of the shares and Jonathan owns the remaining 30% interest. On August 1 (the 213th day of the year), Marisa sells all of her shares to Jonathan. At the end of the year, McDaniel Corporation reports ordinary income of $225,000. How much ordinary income, if any, is allocated to Marisa for the current year? Round your answer to the nearest dollar.

$91,911 An S corporation's shareholders must report their pro rata share of the ordinary income or loss and separately stated items for the S corporation's tax year that ends with or within the shareholder's tax year, using the "per day/per share" method. Marisa owns 70% of the stock for 213 of the 365 days in the year and then owns no stock for the remainder of the year, so her share of the partnership's ordinary income is $225,000 x 70% x 213/365 = $91,911.

S corporations are subject to all of the following taxes EXCEPT ________. excess net passive income tax LIFO recapture tax built-in gains tax accumulated earnings tax

accumulated earnings tax S corporations are exempt from the regular income tax, the accumulated earnings tax, the personal holding company tax, and the corporate alternative minimum tax for all the years the election remains in effect.