Question

a) John, William and Fred run a construction company as a general partnership business (Shares: John 20%, William 35%, and Fred 45%). The company had a gross profit of $375,000 last year. If they distribute $250000 among themselves, and leave the rest of the profitin the business, would it be advantageous for them to incorporate as a closely held corporation? b) What if they decide to file their taxes as an S-corporation? c) Calculate the actual, average and effective taxespaid by the conlpany in all scenarios. Note: All the partners file their personal taxes as single taxpayers.

Answer 1

General Partnership Firm

From the above mentioned problem there are three partners in the construction business they are;

John,William and Fred, their business sharing ratios point out inthe problem is;

John=20% , William=35% and Fred=45%.

The Gross Profit in the last year mentioned is $ 3,75,000.

Business distribute profit among themselves is $ 2,50,000.

So the balance amount of $ 1,25,000. leave for using in the business. Is this decission good or bad that is the first question.

a). That decision for using a part of profit in a partneship firm is advantageable decision for the future developments of the partnership firm. This firm is a joint partnership and using the whole profit distributing among themselves canot develop its mission and vision in the future run and it will not bring a sustainable developments in the partnership business.the realisation of the firm can be ensure with sustainable working capital so the part of profit can ensure this opportunity for smooth run in the organization.The profit avail to each partners are as follows in this situation.

John=2,50,000x20/100, =50,000,

William= 2,50,000x35/100, =87,500. and

Fred= 2,50,000x45/100,= 112500.

b) If the firm decide to pay tax as S-crporation tax mode ,some benefits are avail to the firm such as,S corporation don't pay corporate income taxes, so there is not really an “S corp tax rate.” Instead, the company's individual shareholders split up the income (or losses) amongst each other and report it on their own personal tax returns.The tax benefit for S corporations is that business income, as well as many tax deductions, credits, and losses, are passed through to the owners, rather than being taxed at the corporate level.An S Corporation is either an LLC or Company Corporation that has elected for special tax treatment with the IRS. ... An S Corp's remaining profits are paid out in distributions to the company's shareholders, who then report those distributions on their personal income tax returns.So in this case John,William and Fred are responsible for that.

c) Actual Tax paid by the business is,while the partnership itself is not taxed on its income, each of the partners will be taxed upon his or her share of the income from the partnership.So Income Tax at a flat rate of 30% is levied on Partnership Firms,here it is 3,75,000x30/100,=1,12,500.The average tax is 2,50,000x30/100,=75,000, but however, share of profits from firm is not taxable in the hands of partner. Hence, if partner is receiving only exempt income i.e. share of profits from firm, then also he is required to file ITR-3 only. The effective tax is 1,12,500/3,75,000= 0.30.