Chapter 1-6: Corporate Formation and Taxation

Corporate Structures and Taxation

Basic Overview

• Transition to discussions on corporations, including various aspects of corporate structure and taxation.

Income Taxation of Corporations

• Income tax for corporations is governed by ASC 740, which is the accounting standard regarding the reporting of income taxes.
• Key Components of Tax Provision:
  • Current Portion: Income tax expense due immediately, represented on the balance sheet as currently payable.
  • Deferred Portion: Taxes due at a future date represented as deferred tax assets or liabilities, which can either lead to future tax deductions (assets) or increased tax payments (liabilities).

Disclosure Requirements

• ASC 740 has complex requirements, including recent updates for more comprehensive disclosures around state tax liabilities.
• Challenges stem from the diversity of state tax laws across the 55 jurisdictions in the U.S.: each state has its own rules, often leading to complications in tax reporting.

Evolution of State Taxation

• Wayfair Case:
  • Landmark Supreme Court case establishing the concept of "economic presence" for taxation, meaning that companies earning income from a state must collect sales tax even without a physical presence in that state.
  • Resulted in increased requirements for state's revenue departments to impose taxes on companies generating income from their residents.

Corporate Formation Concepts

• Four critical questions during corporation formation:
  1. Tax effect to shareholders.
  2. Tax effect to the corporation.
  3. Basis for the stock in the hands of the shareholder.
  4. Basis in the hands of the corporation of assets given for stock.

Tax-Free Transfers to Controlled Corporations

• Section 351 allows for no gain or loss recognition if assets are exchanged solely for stock in a corporation (as long as control is maintained).

Diagrams of Corporate Structures

• Different shapes used in diagrams:
  • Circle: Individual (person).
  • Rectangle: C corporation.
  • Triangle: Pass-through entities like partnerships or S corporations.

Basis Concepts in Transactions

• Importance of fair market value (FMV) when assessing contributions of assets for stock. Two fundamental provisions:
  • Section 351: No gain/loss for contributions solely for stock.
  • Section 118: Corporation doesn’t recognize gain on capital contributions.

Temporary vs Permanent Differences

• Business entities face differences in taxable income versus financial reporting income due to varying recognition timings (e.g., accrued vacation).

Accountability in Corporations Coverage

• Multiple entities can complicate tax obligations, especially for partners who may have tax returns spanning numerous states.

Entity Classification and Check the Box Regulations

• Clarification on how to classify entities (e.g., partnerships versus corporations) for tax purposes, particularly regarding single-member LLCs versus multi-member entities (partnerships).

Conclusion

• The complexities surrounding corporate structure, taxation, and compliance are amplified by differing state regulations and economic presence principles. Businesses must navigate these nuances carefully to manage their tax obligations effectively.