Business Entity IssuesChapter 12 pp. 445-4852018 National Income
Tax Workbook™
Business Entity Issuesp. 445
Tax-Exempt Entities Update
Choice of Entity under the TCJA
Opting Out of the Centralized Partnership Audit Regime
Choice of Entity under TCJA p. 458
Changes due to TCJA:
▪ Tax rate for C corporations is flat 21%
▪ New Qualified Business Income (QBI) deduction IRC §199-A
Check the Box Regulationspp. 458 - 459
Selecting a C Corp. p. 459
Things to consider:▪ Tax rate/amount of income▪ Is income subject to SE tax▪ Income retained & distributed to owners▪ Is owner subject to NIIT▪ Tax consequences of conversion▪ QBI deduction▪ Other factors (both tax & non-tax considerations)
Tax Rates for C Corp p. 460
Individual tax rates 10%-37%
C corporation tax rate 21%
▪ MFJ marginal rate exceeds 21% when income > $77,400
▪ Average rate of tax for MFJ reaches 21% when income > $332, 921
SE Tax considerations pp. 460 - 461
If all income subject to SE tax, incorporated business is better Figure 12.4:
Retained Income p. 461
Business that retains income:▪ Generally owes less tax as C Corp ▪ Except if owner in 10% or 12% bracket
Business that distributes income:▪ Generates less tax as disregarded or pass
through entity:• Second level of tax• Net investment income tax (NIIT)
Examples 12.7 thru 12.12pp. 461 - 467
Fig 12.7 shows:With up to $202,600 income & a 50% distributionC corp & S corp both better than disregarded
Figure 12.8 shows:Above $202,600 & 50% distribution C corp is the better option
Figure 12.9 shows:If 100% distribution S Corp & disregarded are better
Net Investment Income Tax p. 467
3.8% on unearned income
Over threshold amount:▪ $250,000 for MFJ & qualifying widow(er)
with dependent child ▪ $125,000 for MFS▪ $200,000 for single & HOH (with
qualifying person)
No C distributions/ No NIIT
Examples 12.13 thru 12.16pp. 467 - 470
Examples 12.13 thru 12.16pp. 467 - 470
Tax Consequences of Conversion to C Corp p. 470
Partnership or multi-member LLC can do transfer, merger, election
If converting partnership doesn’t qualify or elect S Corp status, it will be a C
S Corp can revoke or terminate election
Transfer to New Corporationpp. 470 - 471
Assets-over form▪ Contributes assets & liab for stock
Assets-up form▪ Distributes assets & liab to members/partners▪ Members/partners contribute to corp
Interests-over form▪ Members/partners contribute interest for stock
Liabilities on Incorporation pp. 471 - 473
Liabilities can generate gain if:
▪ Contributed liabilities for tax avoidance or no business purpose
▪ Basis in assets transferred less than liabilities assumed by corp. excess is boot
S Conversion to C p. 473
Revoke election▪ File statement to revoke▪ More than 50% consent▪ Can be retroactive or prospective
Terminate election▪ Too many shareholders, ineligible
shareholder, second class of stock, etc.
S Termination Year pp. 473 - 474
Two returns: ▪ beginning of tax year through date of termination ▪ day after termination to end of the year
No reelection for 5 years
Reduce to 1 year if change in ownership and termination beyond control
QBI Deduction pp. 474 - 475
Reduces individual income tax rate by 20%
C corporation doesn’t qualify
S Corporation vs. SMLLC p. 475
Both pass through entities
SMLLC owner pays SE on all income
S corp. and owner pay FICA on wages▪ S corp. must pay reasonable compensation
S Corp. vs. SMLLC p. 475
S Corp can decrease SE tax by increasing wages
Wages paid by S Corp reduce QBI
Benefit of decreased SE tax offsets reduced QBI deduction
S Corp. vs. SMLLC pp. 475 - 476
S wages have 3 effects:
1. S Corp. & shareholder pay FICA
2. Converts to income that is not QBI
3. Above threshold, TP can claim higher QBI deduction
Figure 12.13 p. 476
Combining/Separating Entitiesp. 481
Compute QBI for each trade or business
Use grouping of activities to increase the QBI deduction for the combined group
Separate activities if one doesn’t qualify for QBI deduction
Grouping Businesses p. 481
Prop. Treas. Reg. 1.199A-4:1. Same person owns majority interest in each
trade or business
2. Majority ownership for majority of tax year
3. All items reported on returns w/ same tax year
4. None are specified service trade or business
5. Meet 2 of three factors
Factors Demonstrating Integration p. 481
Meet 2 of 3 factors:
a. Products/services are the same or customarily provided together
b. Share facilities or centralized business element
c. Operated in coordination w/ or reliance on others
Separating Businesses p. 481
Prop. Treas. Reg. 1.199A-5
Anti-abuse Rule 1▪ Specified Service includes any trade or
business that provides 80% or more of property or services & there is ≥ 50% of common ownership
▪ Less than 80%, only include portion
Separating Businesses p. 482
Prop. Treas. Reg. 1.199A-5
Anti-abuse Rule 2
If ≥ 50% or more common ownership & shared expenses, trade or business will be part of Specified Service if gross receipts not more than 5% of combined receipts
Separating Businesses p. 482
Partnership can distribute line of business to partners who then contribute it to new partnership
Corporation can do a spin-off, split-off, split-up▪ Need active conduct of trade or business, ▪ Transfer one complete trade or business, ▪ Retain one complete trade or business, and ▪ Not a device to distribute E&P
Opting out of the Centralized Partnership Audit Regime p. 483
May elect out of new regime if eligible
Eligible partnership▪ 100 or fewer partners during the year Based on required # of K-1s If H & W both partners = 2 S corp = number of S SH’s + S corp
Eligible Partners p. 483
Eligible partner includes:▪ Individual▪ C corporation▪ Eligible foreign entity▪ S corporation▪ Estate of deceased partner
Non-eligible Partners p. 483
Eligible partner does not include:▪ Partnerships▪ Trusts▪ Foreign entities that are not eligible▪ Disregarded entities▪ Nominees▪ Estates
How to Elect Out p. 483
Elects on timely filed return (w/extensions)
Election revocable only with IRS consent
Must disclose name, correct TIN, federal tax classification of all partners (includes S SHs if an S corp is a partner)
Each partner must be notified w/in 30 days of election
Effect of Opting Out p. 483
Audits conducted under pre-TEFRA rules
Exam at partnership level
Agreement or disagreement with adjustments at partner level
Advantages to Opt Out p. 484
1. Partners keep control of decisions2. No one person makes decisions for all3. Adjustments only for partners of reviewed year4. Audit adjustments in audit year5. No partnership role after exam6. Each partner gets computation of adjustment7. Each partner makes his/her own decision8. Differing results on appeal
Advantages to Opting Out Cont. p. 484
9. SOL determined at partner level10. Adjustments for smaller partners may be below
tolerance level11. Takes more IRS resources to audit large
partnership12. Aggregate liability is more realistic13. Adjustments more straight forward14. No need for partnership representative 15. All regulations are not final
Disadvantages of Opting Out pp. 484 - 485
1. Closer scrutiny of individual returns2. All partners need SSN, ITIN, or EIN3. Opt-out is limited by type and # of partners4. Higher cost per partner for appeal5. Different results on appeal may be unfair6. Partnership has to collect info 7. IRS can later determine election invalid8. Revocation of election only w/ IRS consent
Guidance for DAFs p. 446
Donor-advised fund (DAF)▪ Sponsoring organization controls fund
▪ Separately identified donor contributions
▪ Donor advises distributions
▪ Excise tax if donor (or related persons) advises distribution and receives more than incidental benefit
Notice 2017-73 p. 447
Can donor/adviser advise DAF to pay for donor’s participation in charity event?
Can donor/adviser advise DAF to satisfy a charitable pledge?
Is the DAF being used to avoid public support limits
Charity Sponsored Events p. 447
No DAF distribution allowed that subsidizes attendance at charity event
No DAF distribution allowed for membership fee
Donor/adviser should pay directly
Charitable Pledges p. 447
Can use DAF distribution to satisfy donor/adviser’s charitable pledge if:
▪ No reference to pledge when making distribution
▪ No other benefit
▪ Donor/adviser doesn’t claim deduction for distribution
Public Support pp. 447 - 448
Individuals using DAF to avoid the Public Support Limits
Public Support Test:
▪ Exempt entity must receive substantial support from the public
▪ Grants/contributions from individual >2% don’t count
▪ 2% limit doesn’t apply to Public Charities (DAF)
Public Support Con’tp. 448
Regs would treat contribution from DAF as contribution from donor
Anonymous contributions treated as coming from one person
Distributions from supporting organization, not subject to limit if they specify not from DAF
UBTIpp. 448 - 449
Unrelated Business Taxable Income (UBTI):
▪ Tax on trade or business income unrelated to exempt activities
▪ $1,000 or more report on 990-T
UBTI Exclusionsp. 449
UBTI Exclusions:
▪ Volunteers perform all work
▪ Income from sale of donated goods
▪ Activities carried on for the convenience of anyone associated with the organization
▪ Trade Shows, State Fairs and Bingo
▪ Distribution of low cost items
Calculating UBTI pp. 449 - 450
Prior to 2018:▪ Aggregate all trade & business activities▪ Subtract all deductions from all▪ $1,000 deduction
For 2018:▪ Calculate separately for each trade & business▪ Deduction from one can’t offset income from other ▪ $1,000 deduction applies to each▪ UBTI includes non-deductible fringe benefits
Written Advice for Private Foundation Grants pp. 450 - 452
General rules▪ Private foundation has to make minimum
distributions - grant to public charity counts
▪ Private foundation no expenditure responsibility for distribution to public charity
Rev. Proc. 2017-53▪ Foreign charity treated like 501(c)(3) charity
Written Advice Guidelines pp. 450 - 451
Foreign charity has no US determination letter
Make equivalency determination
Safe harbor written advice guidelines:▪ Reasonable factual/legal assumptions▪ Identify/consider all fact/circumstances▪ No unreasonable reliance▪ Relate applicable law/authorities▪ Don’t consider audit possibility
501(c)(3) Written Advice p. 451
MUST INCLUDE:English translation Controlled organizations
Exempt purpose List of activities
Distribution provisions Verify not a terrorist
No ownership Policy against discrimination
Don’t influence legislation
Form 1023-EZpp. 452-454
Form 1023-EZ Streamlined Application for Recognition of Exemption under 501(c)(3)
Use if: Annual gross receipts $50,000 or less
▪ Projected for current & next 2 years▪ Actual for prior 3 years
FMV assets not more than $250,000
Ineligible to use Form 1023-EZ pp. 452 - 453
Can’t use if: Foreign/no US mailing address Terrorist orgs Trusts, LLCs or for-profit entities Revoked (other than non-filers) Churches, schools, hospitals, etc. Community foundations Private foundations
Form 1023-EZ Updates p. 453
Changes to Form 1023-EZ:
▪ Part III description of activities
▪ Verify annual gross receipts, assets & classification
▪ Reinstatement requires same classification for auto-revoked entities
▪ Check boxes added to designate if church, school, or hospital
1023-EZ Processingp. 454
Reject if auto-revoked and seeking different classification
Refer if private foundation seeking reinstatement as public charity
Refer if contrary narrative
Reject or refer if incomplete narrative
Reject if not eligible
New Form 1024-A pp. 454 - 455
Form 1024-A – application for 501(c)(4) status
Application only 4 pages (down from 19 pages)
Civic leagues, social welfare, employee association
Filing F1024-A is optional – Form 8976 is not
Modification of Procedures pp. 455 - 456
Rev. Proc. 2018-5▪ Procedure to request exempt status▪ No determination for marijuana bus.▪ No determination to relinquish status
Rev. Proc. 2018-10▪ Submit 1024-A for (c)(4), 1024 for others▪ Authorized representative must sign▪ TP must sign penalty of perjury declaration
Change in Form or Place of Organization pp. 456 - 457
Rev. Proc. 2018-15, no new app if change in:▪ Incorporation▪ Reincorporation in a diff. state▪ Statutory merger
Surviving org. is domestic bus. entity, corp., same purpose
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