Discussion Problem

Problem 1

A law practice was incorporated on January 1, 2015, and expects to earn $25,000 per month before deducting the lawyer's salary. The lawyer owns 100% of the stock. The corporation and the lawyer both use the cash method of accounting. The corporation does not need to retain any of the earnings in the business, thus, the salary of the lawyer (a calendar year taxpayer) will equal the corporation's net income before salary expense. If the corporation could choose any tax year and pay the lawyer's salary at the time that would be most tax efficient (but at least once every 12 months), what tax year should the corporation choose? When should the salary be paid each year?

Problem 2

Art Funkel started his incorporated medical practice on June 1, 2015. He immediately made an S election for the corporation. Art would like the corporation to adopt a tax year ending May 31 so that a full 12 months of income would be included in the first tax year. Can the corporation elect a fiscal year ending May 31? Explain.

Problem 3

Fred, a cash basis taxpayer, received a $15,000 bonus from his employer in 2015. The bonus was based on the company's profits for 2014. In 2016, the Fred received and additional $10,000 with respect to 2014 profits. Fred's marginal tax rate in 2015 was 15%, and it was 35% in 2016. Sue, also a cash basis taxpayer, received a $35,000 bonus in 2016 that was based on 2015 profits. In 2016, the company discovered that it had overstated its profits in 2015. As a result, Sue was required to repay $10,000 of her bonus in 2016. She was in the 35% marginal tax bracket in 2015 and in the 15% marginal bracket in 2016. What special treatment is available to Fred and Sue as a result of their employer's errors?

Problem 4

Under what conditions would the cash method of accounting be advantageous as compared with the accrual basis?

Problem 5

In December 2015, Nell, Inc., an accrual basis taxpayer, paid $12,000 for insurance premiums for her business for the 2016 calendar year. How much of the premiums can Nell, Inc., deduct in 2015?

Problems 6

The Cardinal Wholesale Company is an S corporation that began business on March 1, 2015. Robert, a calendar year taxpayer, owns 100% of the Cardinal stock. He has $40,000 taxable income from other sources each year. Robert will work approximately 30 hours a week for the corporation. Cardinal sells swimming pool supplies, and its natural business year ends in September. Approximately 80% of Cardinal's gross receipts occur in June through September.

Problem 7

Zorn conducted his professional practice through Zorn, Inc. The corporation uses it fiscal year ending September 30 even though the business purpose test for a fiscal year cannot be satisfied. For the year ending September 30, 2015 the corporation paid Zorn a salary of $180,000 and during the period January through September 2015, the corporation paid him a salary of $150,000.

a. How much salary should Zorn receive during the period October 1 through December 31, 2015?

b. Assume that Zorn received only $24,000 salary during the period October 1 through December 31, 2015. What would be the consequences to Zorn, Inc.?