Question

For the current year, Maple Corporation, a C corporation, reports taxable income of $436,000 before paying salary to its sole shareholder, Diane. Diane’s marginal tax rate on ordinary income is 35.9 percent (including the additional Medicare tax) and 18.8 percent on dividend income (including the 3.8% net investment income tax). If Maple pays Diane a salary of $170,000 but the IRS determines that Diane’s salary in excess of $120,000 is unreasonable compensation, what is the amount of the overall tax (corporate level + shareholder level) on Maple’s $436,000 pre-salary income? Assume Maple’s tax rate is 35 percent and it distributes all after-tax earnings to Diane. (Round your intermediate calculations and final answers to the nearest whole dollar amount.)

OVERALL TAX (CORPORATE LEVEL + SHAREHOLDER LEVEL):

Answer 1

Computation of overall tax
Particulars	With $120000 salary	Explanation
Taxable income before salary	$436000
Salary	$120000
Taxable income	$316000
Entity Tax	$110600	$316000*35%
After tax entity earnings	$205400	$316000-110600
Diane's tax on dividend	$38615	$205400*18.8%
Diane's tax on salary	$43080	$120000*35.9%
Overall tax rate = 110600+38615+43080 = $192295
Maple's tax rate is 35% . Therefore entity tax should be computed by this rate. Diane's
marginal tax rate on ordinary income is 35.9%, so Diane's tax on salary should be computed by
this tax rate