Business Entities - C-Corporations and S-Corporations - Similarities

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

C-Corporations and S-Corporations - Similarities

1. Limited Liability Protection - Both of these legal entities have limited liability protection.  All Shareholders who purchase their ownership by purchasing shares of the corporation's stock are limited in their liability.  They can not be held personally liable.  They also can only lose their investment, or the amount of money paid for the corporation stock.
2. Separate Entities - Both of these legal entities are just that separate legal entities from any of the shareholders, directors or officers of the corporation.
3. Filing Documents - In order to create the legal entities, both C-Corporations and S-Corporations require papers be filed with the state in which they are incorporating. The documents are typically called "Articles of Incorporation" or "Certificate of Incorporation" depending on the state, 
4. Structure - Both legal entities have shareholders, directors and officers.  Shareholders are the owners of the company whom elect the board of directors.  The board of directors oversee and direct corporation affairs and business.  The directors elect the officers of the corporation.
5. Corporate Formalities - Both legal entities are required to adopt bylaws, issue stock, hold shareholder and board of director meetings, filing annual reports, and paying expenses.  All of these are internal and external formalities that both of these type of legal entities are required to accomplish.

Business Entities - Corporations

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

Corporations
A California corporation generally is a legal entity which exists separately from its owners. While normally limiting the owners from personal liability, taxes are levied on the corporation as well as on the shareholders. The sale of stocks or bonds can generate additional capital and the longevity of the corporation can continue past the death of the owners. Legal Counsel should be consulted regarding the variety of options available.

To form a corporation in California, Articles of Incorporation must be filed with the California Secretary of State’s office. Forms for the most common types of Articles of Incorporation are available on our Forms, Samples and Fees webpage. You may use the form or prepare your own statutorily compliant document.

The C corporation is the standard corporation, while the S corporation has elected a special tax status with the IRS. It gets its name because it is defined in Subchapter S of the Internal Revenue Code. To elect S corporation status when forming a corporation, Form 2553 must be filed with the IRS and all S corporation guidelines met.

In Monday's blog, I will discuss the similarities between C corporations and S corporations.  In Wednesday's blog I will discuss what makes the two different.  There are several differences and similarities that I felt that we needed to spend a few extra days on this business type. 

Business Entities - Limited Liability Company

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

Limited Liability Company
A California LLC generally offers liability protection similar to that of a corporation but is taxed differently.  Domestic LLCs may be managed by one or more managers or one or more members.  In addition to filing the required documents with the Secretary of State, an operating agreement among the members as to the affairs of the LLC and the conduct of its business is required.  The LLC does not file the agreement with the Secretary of State but maintains it at the office where the records are kept.  To form an LLC in California, Articles of Organization (Form LLC–1) must be filed with the California Secretary of State’s office.

An LLC is a hybrid business entity that blends elements of partnership and corporate structures. The LLC’s main advantage over a partnership is that, like the owners (shareholders) of a civil law corporation, the liability of the owners (members) of an LLC for debts and obligations of the LLC is limited to their financial investment. However, like a general partnership, members of an LLC have the right to participate in management of the LLC, and profit or losses flow through to its members.  An LLC may not be formed by certain types of businesses that provide professional services requiring a state professional license, such as legal or medical. For California income tax purposes, an LLC will be classified as a partnership if it has more than one owner and will be treated as a disregarded entity if it has only one member.  However, an LLC is allowed to elect to be treated (taxed) as a corporation. To be taxed as a corporation, the LLC files an election on Federal Form 8832, Entity Classification Election, with the Internal Revenue Service. California conforms to the federal entity classification regulations commonly known as "check-the-box regulations" that allow an LLC to elect to be taxed as a corporation. 

Business Entities - Limited Partnership

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

Limited Partnership
A California Limited Partnership may provided limited liability for some of the partners.  There must be at least one general partner who acts as the controlling partner and one limited partner whose liability is normally limited to the amount of control or participation of the limited partner.  General partners of a Limited Partnership have unlimited personal liability for the Limited Partnership's debts and obligation.  To form an LP in California, a Certificate of Limited Partnership (Form LP–1) must be filed with the California Secretary of State’s office.

The Limited Partnership files taxes by using the Form 1065 for the Federal Government and a 565 for the state government.  This partnership does have a $800 minimum tax due at the state level.  Each of the partners receives a K-1 with their share of the income/loss which they transfer to their own personal taxes.

The Limited Partnership is a flexible form of business.  It is designed primarily for specific professional services.  The partners decide the structure of the organization and the distribution of profits and losses.  a written partnership agreement is advisable. 

Business Entities - General Partnership

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

General Partnership
This is the simplest form of business for two or more people.  This is basically a Sole Proprietorship for two or more people.

A California GP must have two ore more person engaged in a business for profit.  Except as otherwise provided by law, all partners are jointly and severally for all obligations of the partnership unless agreed by the claimant.  Partners make the business decisions of the Partnership together.  Profits are taxed as personal income for the partners.  To register a GP at the state level, a Statement of Partnership Authority (Form GP–1) must be filed with the California Secretary of State’s office. Interesting fact:  registering a General Partnership at the state level is optional.

The General Partnership files taxes by using the Form 1065 for the Federal Government and a 565 for the state government.  This partnership does not have a minimum tax due at the state level.  Each of the partners receives a K-1 with their share of the income/loss which they transfer to their own personal taxes.

The following are some things to consider regarding a General Partnership.  A partnership is a flexible form of business and relatively easy to set up.  The partners will decide the structure of the organization and the distribution of profits and losses. A formal, written partnership agreement is advisable.  A separate bank account should be established to run the operations.  A partnership allows more than one owner, unlike a sole proprietorship.  The cost to form a partnership is generally less expensive than forming a corporation.  The items of income, deductions, and credits flow through from the partnership to each partner’s California Schedule K-1, Partner’s Share of Income, Deductions, Credits, and distributive shares of property, payroll, and sales.  Each partner is responsible for paying taxes on their distributive share.  In a general partnership, each partner is personally liable for all business debts and lawsuits.  A partnership exists as long as the partners agree it will and as long as there are at least two partners, one of whom is a general partner.

Business Entities - Limited Liability Partnership

In the state of California, the following are the business entities that are allowed: 

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

Limited Liability Partnership
An LLP is a partnership that engages in the practice of public accountancy, law, architecture, engineering or land surveying.  It also can provide services or facilities to a California registered LP that practices public accountancy or law or to a foreign LLP.

An LLP is required to maintain certain levels of insurance by law.  To register an LLP in California, a Form LLP-1, an Application to Register a Limited Liability Partnership must be filed with the California Secretary of State’s office.

An LLP is a form of ownership in which all the partners receive limited liability protection. An LLP is similar to a general partnership in that all the partners can take an active role in managing the day-to-day affairs of the business. The LLP form of ownership is limited in the State of California to persons licensed to practice in the fields of public accountancy, law, architecture, engineers or land surveyors.  In order to form in California, an LLP must first register with the California Secretary of State. An LLP formed in another state must register with the California Secretary of State prior to conducting business in the state.

In an LLP, there are two classes of partners, general partners and limited partners.  The general partners have unlimited liability and the limited partners have limited liability.  The partners will decide the structure of the organization and the distribution of profits and losses. A formal, written partnership agreement is advisable.  Because it is a form of Partnership, the Partnership will file a form 1065 to file their taxes with the IRS.  The items of income, deductions, credits, and shares of property, payroll, and sales flow through from the partnership to each partner’s California Schedule K-1. Each partner is responsible for paying taxes on their distributive share.  A LLP remains in effect based on partners agreeing to a termination date.  LLPs do not pay income tax but they are subject to the annual tax of $800.

Business Entities - Sole Proprietorship

In the state of California, the following are the business entities that are allowed:

1. Sole Proprietorship
2. Limited Liability Partnership
3. General Partnership
4. Limited Partnership
5. Limited Liability Company
6. Corporations (C-Corporations and S-Corporations)

In the next few blogs, I will be going over the filing requirements for each of these entities, how the entities are created and what forms are required for the entities to file their taxes.  I will also go over the major advantages and disadvantages of each one.  Keep in mind that I am not an attorney, so all I am giving is my opinion.  If you want a legal opinion, please consult an attorney.  I do not dispense legal advice.

Sole Proprietorship
Sole Proprietorship is basically going into business for yourself as yourself.  This is the government allowing you as a person to own and operate your own business.  You will have total control and make all decisions on your business.  You receive all profits from the business and you are responsible for all taxes and liabilities of the business.

If you call the business something other than the person who owns it name, you need to file a form called a Fictitious Business Name Statement with the county where the principal place of business is located.  Example:  You are Joe Smith.  You want to open a Card Shop.  You want to call it Joe's Card Shop.  You will need to file a Fictitious Business Name Statement, because it does not have your full name as part of the business.  No formation documents are filed with the California Secretary of State's Office.  You can request a tax identification number from the IRS to identify your new business.  I suggest this so that you do not need to give everyone your social security number when they ask for the business' tax identification number.

Taxwise, it is easy for you to file the taxes.  You file it along with your own personal taxes on your 1040 (and 540 for the state of California).  To capture the business information, you will file a separate schedule C for each separate business you operate as a sole proprietorship.  The total of all of the schedule Cs will be entered on line 12 as income (or loss if negative).

Advantages of this type of business is you own this entity, and no one can take it away from you.  You also make all the decisions.  This means who to do business with, how to advertise, who you want to employ (if any one) and so on.  All decisions are yours.  You also get all of the profit.

Disadvantages of this type of business is that you bear all of the liability.  For instance if you sign a year long lease and the business fails on month 2, you will still owe 10 more months of a lease you will have no use for the building.  If someone sues the business, they are suing you.  All expenses are your responsibility.  No getting out of it.  You also will need to pay Self employment tax.  This could mean putting some of your income aside and paying it to the government once a quarter.

Child and Dependent Care Tax Credit

If you paid someone to care for your child or other qualifying person so that you (and your spouse if filing jointly) could work or look for work, you may be able to take the credit.

Qualifying Person
- A child under the age of 13 whom you can claim as a dependent is a qualifying person.  If the child turned 13 this year, then the child would be a qualifying person for the part of the year that he was under 13.
- Your disabled spouse who was not physically or mentally able to care for himself.
- Any physically or mentally disabled person who was not able to care for himself or herself, whom you can claim as a dependent (or could claim as a dependent with certain exceptions).

Dependent Care Benefits
Dependent care benefits include:
-Amounts your employer paid directly to either you or your care provider for the care of your qualifying person(s) while you worked,
- The fair market value of care in a daycare facility provided or sponsored by your employer, and
- Pre-tax contributions you made under a dependent care flexible spending arrangement (FSA).
There is a maximum on the qualified expenses of two or more qualifying persons of $6,000.  This amount does not need to be split equally.

Who can take the Credit or Exclusion:

You can take the credit or the exclusion if all five of the following apply:

1. Your filing status may be single, head of household, qualifying widow(er) with dependent child, or married filing jointly. If your filing status is married filing separately, see Married Persons Filing Separately, later.

2. The care was provided so you (and your spouse if filing jointly) could work or look for work. However, if you did not find a job and have no earned income for the year, you cannot take the credit or the exclusion. But if you or your spouse was a full-time student or disabled, see the

instructions for lines 4 and 5, later.

3. The care must be for one or more qualifying persons.

4. The person who provided the care was not your spouse, the parent of your qualifying child, or a person whom you can claim as a dependent. If your child provided the care, he or she must have been age 19 or older by the end of 2015, and he or she cannot be your dependent. 

5. You report the required information about the care provider on line 1 and, if taking the credit, the information about the qualifying person on line 2.

Note that there is a maximum on the qualified expenses. For one person, the maximum qualified expenses is $3,000.  For two or more person(s), the maximum qualified expenses is $6,000.  The credit can be as much as 35% of the allowable expenses.  The percentage changes based on your income.  Lower income means a higher percentage of the allowable expenses, and higher income means a lower percentage of the allowable expenses.

You will need the Social Security Number of your qualifying person(s).  You will also need the Tax Identification Number or Social Security Number, name and address of the person who cared for your qualifying person and received the qualified expenses.

Claiming the Child Tax Credit

If you are the parent or guardian of a child, or you are someone who is in a position to claim a child on a tax return, you might be able to claim the child tax credit.  This is a tax credit that is refundable, which means that you can use this tax credit to get a refund from it and may be worth up to $1,000 to you.

This is one of a group of tax credits that are created for families with children in order to ease the financial burden.  Another one is called the "Child and Dependent Care Tax Credit".  Don't confuse this one with the Child and Dependent Care Tax Credit.  See my next blog for information on the Child and Dependent Care Tax Credit.

For the "Child Tax Credit", there are 7 "tests" that you must be able to pass in order to claim the tax credit.

Relationship Test – The dependent child must be either a son, daughter, stepchild, foster child, adopted child, brother or sister; or a descendant of any of these relations such as a grandchild, nephew, or niece.

Residency Test – The dependent child must have lived with the taxpayer for more than half the year (there are exceptions to this rule).  Some of the exceptions are short time absences, such as schooling.

Age Test – The dependent the child must be 16 years old or younger.  (The IRS calls this under 17 years of age, just to confuse the issue).

Support Test – The dependent child can not have provided for more than half of his or her own financial support.

Citizenship Test – The dependent child must be either a citizen or resident alien of the United States.

Dependency Test – The dependent child meets the criteria to be claimed as a dependent of the taxpayer

Income Tax Return Test – The dependent child must hot have filed a joint tax return or (files only to claim a tax refund).

Selling Your Home

To figure the gain or loss on the sale of your main home, you must know the selling price, the amount realized and the adjusted basis.  You subtract the selling expenses from the selling price to get the amount realized.  You subtract the adjusted basis from the amount realized to get the gain or loss.

Selling Prince - Selling expenses = Amount Realized

Amount Realized - Adjusted Basis = Gain or Loss

First step is to determine the sale price.  This is everything you received in exchange for your home.

You need to determine:

a.  All money (currency, check, wire transfer)

b.  The value of any notes, mortgages or other debts that the buyer agreed to assume (take over)

c.  Any real estate taxes the buyer paid on your behalf

d.  The fair market value of any other property or services you received

e.  Any amount you received for granting an option to buy your home, if the option was exercised

You add all of the the above up and this is your sales price

Second step is to determine your selling expenses.  These are the costs directly associated with selling your home.

a.  Any sales commissions (real estate agent's sales commissions for example)

b.  Any fees for a service that helped you sell your home without a broker

c.  Any advertising fees

d.  Any legal fees

e.  Any mortgage points or other loan charges you paid that would normally have been the buyer's responsibility.

Add the lines above these are your selling expenses.  Note, if you received payment/reimbursement from your employer, you will need to subtract the expenses that your employer paid or reimbursed to you.

Take the Selling Price of your home and subtract out the selling expenses to get the amount realized.

Third step is to determine your total basis.

a. The amount you paid for your home.  Remember to include the down payment and any amount you borrowed to pay for the home.

b. Any settlement fees or closing costs you paid when you bought your home, except for financing-related costs.  A fee paid for buying the home is any fee you whould have had to pay even if you paid cash.

c. Any real estate taxes or other costs you paid on behalf of the seller you bought your home from and which the seller never paid you back.

d.  Any amounts you spent on construction, renovation or other improvements that are still part of your home when you sell it, other than costs or repairs and maintenance.

e.  Any amounts you spent to repair damage to your home or the land it sits on

f.  Any special assessments for local improvements (such as special tax or condominium association assessments that are not merely for repairs or maintenance.

Add these lines, these are total basis.

Fourth step is to determine your basis adjustments

a. Any depreciation you took for using your home as a home office.

b. Any depreciation you took or could have taken for any business or investment (rental) use of your home other than home office use.

c. Any casualty losses (flood/fire damage) you claimed as a deduction on a federal tax return.

d.Any insurance payments you received or expect to receive for casualty losses

e. Any payments you received for granting an easements, conservation restriction or right-of-way

f. Any energy credits or subsidies that effectively paid you back for improvements you included in your total basis.

g. Any adoption credits you claimed, or any nontaxable payments from an employer-sponsored adoption assistance program you used for improvements you included in your total basis

h, Any District of Columbia first-time homebuyer credit you claimed

i. Any real estate taxes the seller paid on your behalf, only if you never reimbursed the seller

j.  Any mortgage points the seller paid for you when you bought your home if:

  - you bought your home between Janu 1, 1991 and April 4, 1994 and you deductd the points as home mortgage interest in the year they were paid  OR

  - you bought your home after April 3, 1994 (whether you deducted the points or not)

k. Any canceled or forgiven mortgage debt amount that was excluded due to a bankruptcy or insolvency and you did not have to declare as income

l.  Any sales tax you paid on your home and then claimed as a deduction on a federal tax return

m  The value of any temporary housing the builder of your home provided for you.

n.  Any gain you postponeed from a home you sold before May 7, 1997.

Add all of these lines, this is your basis adjustment

Figure your adjusted basis = total basis - basis adjustment

Figure your gain/loss = amount realized - adjusted basis

Who can I claim as my dependent?

One of the most asked and less known questions that I am asked is "Who can I claim as my dependent?"  The unfortunate truth is that this is an area where tax deductions can be missed or even misstated on tax returns.  There are actually a number of relatives who do not need to live with you to qualify for the deduction.  It could be that the grandmother you support during the year that did not live with you could be a hidden deduction.

A dependent must pass 5 tests to be your "qualifying child" and 4 tests to be your "qualifying relative" in order to be able to claim them as dependent.

Qualifying Child
•Relationship: Must be your child, adopted child, foster-child, brother or sister, or a descendant of one of these(grand or nephew).
•Residence: Must have the same residence for more than half the year.
•Age: Must be under age 19 or under 24 and a full-time student for at least 5 months. They can be any age if they are totally and permanently disabled.
•Support: Must not have provided more than half of their own support during the year.
•Joint Support: The child cannot file a joint return for the year.

Qualifying Relative
•They are not the “qualifying child” of another taxpayer or your “qualifying child”.
•Gross Income: Dependent earns less than $4,000 in 2015.
•Total Support: You provide more than half of the total support for the year.
•Member of Household or Relationship: The person must live with you all year as a member of your household or be one of the relatives that doesn’t have to live with you.

Relatives who do not have to live with you:
A person related to you in any of the following ways doesn't have to live with you all year as a member of your household to meet this test.

• Your child, stepchild, foster child, or a descendant of any of them (for example, your grandchild). (A legally adopted child is considered your child.)
• Your brother, sister, half brother, half sister, stepbrother, or stepsister.
• Your father, mother, grandparent, or other direct ancestor, but not foster parent.
• Your stepfather or stepmother.
• A son or daughter of your brother or sister.
• A son or daughter of your half brother or half sister.
• A brother or sister of your father or mother.
• Your son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law.

Any of these relationships that were established by marriage aren't ended by death or divorce. 

IRA Contribution thoughts

Understand that there are two different kinds of IRAs - Traditional IRA and Roth IRA.  In a Traditional IRA, you contribute pre-tax dollars.  You will pay taxes on it when the money is withdrawn.  You will also be able to reduce your taxable income on your taxes by contributing to a Traditional IRA.

A Roth IRA is just about the opposite.  You are taxed on the money going in, so you contribute post-tax dollars.  This will not reduce your taxable income by contributing to a Roth IRA.  One of the attractive features of a Roth IRA is that you do not need to pay taxes going out.  The money is all yours.

The IRA contribution limits for both 2015 and 2016 is $5,500.  If you are over the age of 50, you are permitted to contribute $1,000 more as a catch up.  Remember that this limit is per person and it is total for the year, not per IRA if you have 2 or more.  The limit also changes if your Adjusted Gross Income is more than $116,000 for single filers or $183,000 for married filers.  The limits go up to $117,000 and $184,000 for 2016.

Self employed people have a few more choices.  They can contribute to SEP IRAs or Simple IRAs.  The good news is that the Simple IRA has a contribution limit of $12,500 for 2015 and 2016.  The SEP IRAs let you contribute the lesser of $53,000 or 25% of your compensation or profit from your self employed business.