an introduction to s corporations · 09 - an introduction to s corporations 4 page 165-166...

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09 - An Introduction to S Corporations 1

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I. S Corporations Subject to AbuseThe original goal of the S-Corporation was to provide an entity that was small business friendlyThe State of Affairs (FY 2015)4.8 million S Corps – 3.9 million e-filedExam Rate @ 0.3% = 14,400Average number of Shareholders 1.7


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The original goal of the S-Corporation was to provide an entity that was small business friendly

The problem from IRS perspective: Many shareholders use as a tool to

avoid SS/Medicare Reasonable compensation difficult to

administer

I. S Corporations Subject to Abuse


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II. S Corps and Licensed Financial Planners


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Fleischer, TC Memo 2016-238 was a question of who earned the income, taxpayer or corporation.For the corporation to own income:1. The individual who provides the services

must be an employee of the corporation, under the corporation’s direction and control.

2. There must be a contractual relationship between the corporation and the entity using the services recognizing the corporations ability to control that contract



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The Facts:C. The taxpayer was a certified and licensed financial

services provider: Entered into a contract with several financial

products firms. Later the broker entered into an employment

agreement with the financial products provider.

D. There were subsequent agreements at subsequent dates.

E. No addendums or agreements were ever entered into by the corporation, taxpayer or products company.



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The IRS indicated that:F. The income was that of the taxpayer not of the

corporation said the court because (G):1. No evidence of amendments, restatements of

the initial agency agreement.2. No evidence of the corporation being a party

to any agreement.3. No evidence that the corporation had any

control over the relationship between the taxpayer and the financial product provider.

Court said taxpayer is owner of income

III. Failure to File Penalty

For tax returns FILED after 12/31/2016 the late filing penalty is:

$200 – This is inflation adjusted

amountPer Shareholder

Per Month Up to 12 Months

Current Maximum $2,400


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First Time Abatement (FTA) is available for late filing of Form 1120-S if:1. Clean filing record for prior three years.2. No “significant” penalties assessed for the three

prior years.

III. Failure to File Penalty


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IV. Choice of Tax Year EndNo need to automatically choose the default

(calendar year)Fiscal Year Ends Allow

1. Deferral of Income

2. Facilitate Tax Planning

3. Income Splitting


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E. The Natural Business Year1. At least 25% of gross receipts “consistently”

received in final two months of “allowed” year, passing test for each of the three most recent years.

2. Once “elected” corporation must retain if they continue to qualify. If they fail then the year end must be adjusted to “qualifying” year end.

These procedures are not available to corporation under exam.

IV. Choice of Tax Year End


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IV. Choice of Tax Year End1. Identify which periods qualify for the past three

years by exceeding 25%2. The winner MUST be the period that is the

largest at the time of the election


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Completing Form 2553 indicating the “qualified” fiscal year with required attachments. In addition to the other signature requirements Page 3 must also be attached and completed.



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Remember the required items to be completed on Page 3 of Form 2553:1. Item O – Status of electing entity.2. Item P – That the fiscal year end election is made

per provisions of Rev. Proc. 2006-46



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Seasonal Business


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VI. Ownership of Other EntitiesMultitude of reasons for multiple entities Protect assets by separate operating entities Allow for more efficient transfer of capital

between Separate assets and operations


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VI. Ownership of Other Entities


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VIII. Ownership of Partnerships and LLCs


A. S Corporations can own up to 99.9% of a partnership or LLC with any number of partners of any type, however the reverse is not true:

B. Only certain LLCs can own an S CorpC. An S Corp can owe an unlimited number of

SMLLCsD. Using an FLP can also be an attractive liability

protection vehicle.

2

IX. Single Member LLCs(A Disregarded Entity)


Looks a lot like a QSUB:

A. SMLLC is disregarded for income tax purposesB. SMLLC will be an entity for payroll and excise

tax purposesC. SMLLC will retain its legal and liability isolation

from S CorporationD. An S Corporation can own any number of

SMLLCsE. There is no tax election required of the SMLLC

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X. Qualified Subchapter S Subsidiary (or QSUB)

There is no one class of stock rules but the S Corp must own 100% of all stock classes.


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XI. Some Benefits and Problems ofThe QSUB Election Process

There are challenges in making an QSUB election: A stock purchase of a C

Corp will not receive a step up in basis

and Will have to deal with BIG

(built in gains) tax


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There are several benefits:Separate Entity, except for income tax.

Simplify intercompany transfers


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There are several benefits:Simplify intercompany transfers


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A Taxpayer who thought they were being VERY clever was told NO by IRS in an attempt to convert capital losses to ordinary:


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an introduction to s corporations · 09 - an introduction to s corporations 4 page 165-166...

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