Research Problems

Research Problems

Research Problem 1. Glow and Bro organized an S corporation and intended to have only one class of stock. They agreed that all distributions should be proportional to their stock ownership. During 2019, Bro withdrew large sums of money from the S corporation without Glow’s knowledge. Glow’s share of pass-through income was $500,000 on the Schedule K–1, but he only received $30,000 of cash distributions. The S corporation became bankrupt. The IRS determined that the two owners did not receive distributions that were proportionate to their ownership, but it taxed Glow (who is in the 37% tax bracket) on the $500,000.

Glow argued that a second class of stock was created: these substantially disproportionate distributions appear to create a preference in distribution, creating a second class of stock. Thus, the election was terminated, the entity was a C corporation, and Glow should be taxed only on the $30,000 distribution, taxed as a dividend because the entity was a C corporation. Glow also argued that the S corporation should take a theft loss deduction for Bro’s withdrawals.

You are the U.S. Tax Court judge hearing the dispute. What are the proper Federal income tax results? Elaborate.

Research Problem 2. Sean Moon is president, secretary, treasurer, sole director, and sole shareholder of Streetz, an S corporation real estate company. He manages all aspects of the company’s operations, and he is the only person working at the company that holds a real estate broker’s license. Sean works 12-hour days and takes few days off. Streetz’s gross receipts and net income figures were reported as follows.

Sean and his wife, Kim, filed joint Federal income tax returns, but they did not report any wages or salaries on line 7 of their Forms 1040. During year 3, Moon transferred $240,000 from the S corporation to his personal account.

You are an expert witness for the IRS. Identify the items you would present to the U.S. Tax Court with respect to the amount of Moon’s compensation that is subject to employment taxes and any other taxes due for year 3 (especially the Medicare net investment income tax). Hint: This is a reasonable compensation issue.

Use internet tax resources to address the following questions. Look for reliable websites and blogs of the IRS and other government agencies, media outlets, businesses, tax professionals, academics, think tanks, and political outlets.

Research Problem 3. Prepare a graph of the growth in the number of S elections since 1980, using increments of no more than five years. On the same graph, show the maximum Federal income tax rates for those years as they applied to individuals and to C corporations. Send your graph and other observations in an e-mail to your instructor with some explanatory comments as to what you found. You might use the IRS Data Book and other items at irs.gov Tax Stats.

Research Problem 4. Summarize the corrective actions required for a corporation to obtain a letter ruling under the inadvertent defective election provision since 1997. There have been almost 100 such letter rulings, and they have been limited to curing the defects that existed at the time the corporation filed its original Form 2553. Send your findings as a research memo in an e-mail to your instructor.