Masonry Magazine August 1997 Page. 24
APPROVED CORPORATION
Among and passed through to its shareholders, who then must report the income and expense on their own income tax returns. Why an S corporation for the average masonry contracting business? The use of this unique tax status enables many masonry contractors to avoid the penalties for accumulating earnings within the business as well as avoiding the double-taxation of corporate earnings (once at the corporate level and again when the shareholders are forced to pay tax on the dividends received).
Doing business as an individual, the average contractor usually computes his or her tax bill using the bottom line profits from the masonry operation as reported on Schedule C of Form 1040. A regular corporation, on the other hand, being a separate entity for tax purposes, files its own tax return and pays taxes on its bottom-line profits.
Should a regular corporation want to distribute its profits or earnings to the owners/shareholders, it does so using the money that remains after the corporate taxes have been paid. The recipient, the owner/shareholder, must then pay taxes on that already taxed dividend income at his or her personal tax rate. Double taxation, in other words.
Those inevitable losses that virtually every masonry contractor incurs are treated in a similar fashion. A corporation that sustains a loss, uses that loss to offset past or future income-its own income. An individual who suffers a loss from his or her masonry sole proprietorship can use that loss to offset personal income, present, past or future, from other sources.
Obviously, our lawmakers place a number of restrictions on the use of S corporations. For example, only a domestic corporation with no more than 35 (75 after January 1, 1997) shareholders can qualify for S corporation status. Furthermore, a qualifying, incorporated masonry contractor can have only one class of stock issued and outstanding. Those shares of stock must be identical when it comes to the rights of the holders in the profits and assets of the masonry contracting operation.
Although not normally subject to tax, for any incorporated masonry contractor choosing S corporation status a tax is imposed on any so-called "built-in" gain that may be realized on the disposition of any asset within 10 years from the first day of operations as an S corporation. Fortunately, the tax on recognized built-in gain does not apply to an incorporated masonry contractor that has always been an S corporation.
Each shareholder of an S corporation separately accounts for his or her pro rata share of corporate income, deductions, losses and credits during the year in which the corporation's tax year ends. These items must be separately stated wherever they could effect the shareholder's separate tax liability.
Our lawmakers also recently approved a provision that, at least for tax years beginning after December 31, 1996, says that S corporations and their stockholders will no longer be subject to the audit rules that are routinely applied to partners and partnerships. While this means that an S corporation tax audit will no longer automatically spill over to the personal tax returns of the shareholders as in the past, consistent reporting by the operation and the owners-shareholders will still be required.
Choosing S corporation means that election must be made on or before the 15th day of the third month of the masonry operation's tax year in order for the choice to be effective for the current year. In other words, a masonry contractor using a calendar year would have to make the S corporation election on or before March 15. Otherwise, as with an election made between now and December 31, S corporation status would apply at the beginning of 1997.
Once made, the S corporation election applies until terminated. Voluntarily ending or terminating the S corporation status of any masonry contractor is not difficult. A problem is created, however, when that S corporation status is terminated involuntarily.
Under our tax rules, S corporation status is automatically terminated if any event occurs that would prohibit the masonry contractor from making the election in the first place. That means, adding additional shareholders, allowing an unqualified shareholder to buy an interest in the S corporation.
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24 MASONRY-JULY/AUGUST, 1997