Corporate Tax Instructions: \"Mr. Pink Owns All

Corporate Tax

Instructions:

"Mr. Pink owns all the shares of XYZ Corporation a subchapter C corp. And leases property to XYZ Corporation. XYZ Corporation has Earnings and Profits of one million dollars for the taxable year 2014 before paying Mr. Pink a salary. XYZ Corporation has cash of $1.2 million and disposable appreciated property with a FMV of $500,000 and a basis of $200,000."

• What is the best way to split income between XYZ Corporation and Mr. Pink to minimize double tax liability? Consider what may be "Constructive Distributions."

• What doctrines apply?

A constructive distribution allows members of the board of directors to take payments in ways other than just cash through property transactions of one form or another. For instance, when a company rents its offices from a shareholder and pays in excess of the office's fair market value, the company's rent is considered a constructive dividend (U.S. Legal, N.d.). Therefore, the XYZ Corporation could pay Mr. Pink with the disposable property but it would still be taxed twice. However, the company could give Mr. Pink the property at $200,000 and he could sell it at $500,000 on the market. As opposed to paying income tax, this way he would pay capital gains.

• How does the reduced tax rate on qualified dividends affect tax planning?

To minimize the tax burden it makes more sense for individuals to be paid in the form of dividends instead of income. This significantly reduces the tax burden from roughly forty percent to twenty percent or lower depending on the total income of the individual.

• The prototypical transaction giving rise to constructive dividends sometimes involve blatant attempts by taxpayers to milk their corporation while avoiding double tax and involve a direct payment or receipt of an economic benefit by the shareholder, and resolution of the issue requires an evaluation of all the facts and circumstances, applying broad standards such as "reasonable compensation" "shareholder benefit vs. corporate benefit" and "intent."

• How much salary should XYZ corporation pay Mr. Pink?

Mr. Pink's salary should be kept as low as possible and he could accept a dividend as an investor rather than a larger income. This would help reduce his tax burden.

• What else can reasonably be paid as a salary to Mr. Pink?

Mr. Pink could accept the property as a form of payment. Although this would be taxed doubly it would be so at a lower rate.

• What other payments can be made to Mr. Pink? See Menard, Inc. v. Commissioner, 560 F.3d 620 (7th Cir. 2009), Hood v. Commissioner, 115 T.C. 172 (2000), Nicholls,

North, Buse Co., v. Commissioner 56 T.C. 1225 (1971).

Mr. Pink cannot take in other form of payments legally. For example, in the Hood v. Commissioner case, the judge decided that the sole owner of a corporation could not deduct his legal expenses to defend himself on tax evasion charges because they represented a form of a dividend payment (Leagle.com, N.d.). Other court decisions have decided similar opinions of the law and the manner in which payments can be made. For example, the famous case of Nicholls, North, Buse Co., v. Commissioner included a log entry for a third of the days does mention that the boat was brought up the Miller River in Milwaukee "for the purpose of entertaining our bankers and attorneys" there is no indication in the log that business was transacted on that occasion. Section 274(d) requires the disallowance of a deduction with regard to an entertainment facility unless there is either an adequate record made at the time of the activity, or sufficient evidence corroborating the taxpayer's own statement, of (a) the amount of the expense; (b) the time and place of the use of the facility; (c) the business purpose of the expense or other item; and (d) the business relationship of persons entertained or using the facility; as we held in John L. Ashby, 50 T.C. 409 (1968), each element must be established separately for each occasion of use (Leagle, N.d.).