Corporate Strategies

Borrowing From Your Corporation

Borrowing From Your Corporation

A reminder for corporation owners: Please remember to borrow from your company with care! Don’t let your loan be reclassified as a taxable transaction by the IRS. If you are a stockholder in a closely held corporation, it’s sometimes tempting to take money out of the corporation in the form of a nontaxable shareholder loan rather than as taxable salary or dividends. But unless you structure the transaction as a genuine loan and repay it accordingly, you’re at risk of having the loan reclassified as a taxable transaction by the IRS. IRS SCRUTINIZES LOANS: Loans to stockholders are a popular target whenever the IRS audits closely held corporations. To assist their auditors, the IRS has recently issued an audit guide on shareholder loans, detailing twelve factors to be evaluated when determining whether advances made to stockholders qualify as bona fide loans. Fortunately, this audit guide is also available to the general public at www.irs.gov. WHAT YOU NEED TO DO: If you take loans from your corporation, here’s what you need to do. First, do the paperwork. Document that the board of directors has approved the loan, and have a promissory note drafted. Don’t forget to include a set maturity date as part of the promissory note. Be sure to state a fair market interest rate as well. To be safe, consider using one of the applicable federal rates published by the IRS each month. When taking loans, don’t get greedy. Taking more than you can reasonably afford to pay back is a red flag to the IRS. To help support your position that the loan is genuine, making payments towards your outstanding balance is a must. It’s a good idea to set up a loan amortization schedule and stick to it until the loan is paid off. Make sure you actually repay the loan; don’t just roll it over into a new loan. CHECK IRS GUIDELINES: There are other factors that the IRS will explore when determining if your loan qualifies as a bona fide loan. The IRS audit guide on shareholder loans instructs the agent to evaluate the extent to which you control the corporation and whether you put up any collateral for the loan. The IRS agent will also review the dividend paying history of your corporation and whether loans were made to other stockholders in proportion to their ownership interest in the corporation. In conclusion, while...

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Keeping Accurate Records

Keeping Accurate Records

I. FOUR REASONS WHY THE OWNER SHOULD ORGANIZE THEIR RECORD KEEPING BY STANDARD ACCOUNTING PRINCIPALS * To help owner see trends in the business. * To provide owner with income tax information. * To produce the Power To Borrow on the business without outside security or collateral. * To have the ability to start your organized Exit Plan. To be organized in your book keeping, means you are adding value to your business. Added value to your business means borrowing power, for sale of the business, for expansion (like putting that downpayment on your own office or warehouse space), or for higher priced exit planning results. The foundation of a good Exit Plan strategy from your business is the book keeping. If your financial records are not in order, the first task in becoming a Exit Plan client will be to get the financial records organized and perfected for current tax projections and exit forecasts. Remember, venture capitalists who fund start-up companies will not invest in a business unless they believe the founders have a good exit plan. Private equity groups will not buy or invest in a successful middle-market company without developing a detailed exit plan for themselves prior to investing. II. HOW TO START Start with a manual system before using a computer system is good advise and common sense. You still need to know how to program the computer software for your particular business and the best way to do that is the old fashion manual way with paper and pencil. * Develop your own system for your unique business. * Simplicity is the key. * To begin, know your deductible expenses. You can ask us for a simple chart outlining the most common deductible expenses. Secondly, get a hardbound diary or journal and write ideas, contacts, etc…date and initial corrections. Third, in the back of the journal is where you start your beginning income and expense list. Startup costs are deductble! III. INCOME AND EXPENSE * INCOME; income equals deposits. * EXPENSES; four types: (1)Cost of Goods Sold (inventory): material to produce; labor to produce; premanufactured goods bought to produce. (2) Variable (selling) Expenses (directly related to selling of product or service): marketing costs; production salaries; shipping; research and development; packaging; sales and commissions or salaries for sales people; vehicle expense; machinery and equipment. (3) Fixed (administrative) Expenses: costs all businesses have, they generally remain...

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“S” Corporation vs “C” Corporation

“S” Corporation vs “C” Corporation

TAXATION: C Corporation: Double taxation of profits. Income is taxed first at the corporate level. Remaining profits are distributed as dividends and taxed again at the individual level. S Corporation: Profits are passed through directly to shareholders, escaping corporate level tax. DIVIDENDS: C Corporation: Beginning in 2003, dividends paid by a C corporation are generally taxed to the individual at the same rate as long-term capital gains (5 or 15%). S Corporation: S corporation earnings passed through to a shareholder are taxed as ordinary income. ORDINARY LOSSES: C Corporation: C corporation losses are not passed through to shareholders. Losses can be deducted only at the corporate level as NOL carry-backs and carry forwards. S Corporation: Losses are passed through directly to shareholders. Current-year losses are deductible up to the shareholder’s basis in S corporation stock. CAPITAL GAINS: C Corporation: Capital gains are taxed at the same level as ordinary income. S Corporation: Capital gains pass through to shareholders and are eligible for favorable capital gain tax rates for individuals. CAPITAL LOSSES: C Corporation: Capital losses are allowed only to the extent of capital gains. Net capital losses are carred back three years and forward five years. S Corporation: Capital losses are passed through to shareholders in the year incurred. Capital losses are deductible subject to limitations on the shareholder’s return. An eligible domestic corporation can elect to be taxed as as S corporation. An S corporation does not pay tax at the corporate level. S corporation profits and losses pass through directly to shareholders. This avoids the double tax of a C corporation, and allows shareholders to deduct corporate losses on their individual returns. For tax purposes, S corporations are treated in a similiar manner to partnerships. Many rules governing S corporations are intended to make sure that S corporation shareholders are subject to the same tax treatment as partners. An S corporation election can be useful in the early years of a corporation’s existence, since losses are passed through to...

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LLC Advantages and Disadvantages

LLC Advantages and Disadvantages

LLC ADVANTAGES: Same pass through features of an S corporation which avoids double taxation of profits. Flexibility of partnership without the restrictions of a S corporation. Examples: An LLC is not limited to one class of stock, the number of members is not limited, any entity can be a member, and it can have flexibility in its profit/loss allocation. An LLC can allocate start-up losses to investors in order to attract capital, whereas an S corporation cannot. In comparison to a limited partnership, an LLC offers limited liability protection for all members, whereas the general partner in a limited partnerhship has unlimited liability. Also, if a limited partner in a limited partnership participates in management, the limited partner is exposed to personal liability. An LLC member who participates in management is generally not exposed. Contribution of appreciated property to an S corporation is a tax-free event if the contributing shareholders control 80% or more of the stock after the contribution. A contribution of appreciated property to an LLC as a partnership is tax free regardless of how much control the contributing partner has (whether a 1% or a 99% owner). Liquidation of an S corporation interest is a taxable event and is treated as if the corporation sold the liquidated assets at FMV to the shareholder. Liquidation of an LLC as a partnership is generally a tax-free event. LLC DISADVANTAGES: An LLC must have at least two members, in contrast to an S corporation that can have a single shareholder. Although some states, California being one of them, allow single member LLC’s, the business is not allowed to file a partnership for federal tax purposes. A single member LLC owned by an individual files Schedule C as a sole proprietor unless it elects to be taxed as a corporation. Earnings are generally subject to SE tax. State law may limit the life of the LLC. As a partnership, if 50% or more of the capital and profit interests are sold or exchanged within a twelve month period, the LLC will terminate for federal tax purposes. If more than 35% of losses can be allocated to non-managers, the LLC may lose its ability to use the cash method of accounting. LLC’s cannot take advantage of incentive stock options, engage in tax free reorganizations or issue Section 1244 stock. Lack of uniformity in LLC statutes. Businesses that operate in more than...

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