Benton Company (BC) has one owner, who is in the 35% Federal income tax bracket.
ID: 2371043 • Letter: B
Question
Benton Company (BC) has one owner, who is in the 35% Federal income tax bracket. BC's gross income is $295,000, and its ordinary trade or business deductions are $135,000. Compute the tax liability on BC's income for 2012 under the following assumptions:
a. BC is operated as a proprietorship, and the owner withdrawls $70,000 for personal use.
b. BC is operated as a corporation, pays out $70,000 as salary, and pays no dividends to its shareholder.
c. BC is operated as a corportation and pays out no salary or dividends to its shareholder.
d. BC is operated as a corporation, pays out $70,000 as salary to its shareholder, and pays out the remainder of its earnings as dividends.
e. Assume that Robert Benton is the owner of BC, which was operated as a proprietorship in 2012. Robert is thinking about incorporating the business in 2013 and plans to take $70,000 per year out of the company whether he incorporates or not. Write a letter to Robert, based on your analysis in (a) and (b) containing your recommendations.
Explanation / Answer
Net income is $160,000 (295,000-135,000).
A) I am making two assumptions here. 1) I am excluding self-employment tax (if I should include, let me know). 2) I am assuming the owner is already in the 35% bracket with his other income, so all of the business income is taxed at 35%. That being said, 35% tax on $160,000 is $56,000. All tax is paid at the owner's personal level - so no Corporate Tax.
B ) Net income here would be $90,000. Tax would be calculated as follows based on corporate tax brackets:
50,000 *15% = 7,500
25,000 * 25% = 6,250
15,000 * 34% = 5,100
So, total corporate tax would be $18,850.
The owner would also need to pay tax on his $70,000 salary at 35%, so $24,500.
C) Net income would be $160,000. Tax would be calculated as follows based on corporate tax brackets"
50,000 *15% = 7,500
25,000 * 25% = 6,250
25,000 * 34% = 8,500
60,000 * 39% = 23,400
Total corporate tax = $45,650
D) Corporate tax would be $18,850 (same as in B).
The owner would still owe $24,500 in tax on his 70,000 salary (calculated in B)
The dividends would be taxed at qualified dividends rates, currently 15% - so he would owe an additional $13,500 (90,000 dividend * 15%) on the individual level.
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