ENTREPRENEURSHIP Lecture No: 29 BY CH. SHAHZAD ANSAR

THE ORGANIZATIONAL PLAN (Contd…)

TAX ATTRIBUTES OF FORMS OF BUSINESS Tax Issues for Proprietorship For the proprietorship the IRS treats the business as the individual owner. For the proprietorship the IRS treats the business as the individual owner. All income is personal income and the business is not taxed as a separate entity. All income is personal income and the business is not taxed as a separate entity. The proprietorship has some tax advantages compared to the corporation. The proprietorship has some tax advantages compared to the corporation. a. There is no double tax on profits. a. There is no double tax on profits. b. There is no capital stock tax or penalty for retained earnings. b. There is no capital stock tax or penalty for retained earnings.

TAX ATTRIBUTES OF FORMS OF BUSINESS (Contd..) Tax Issues for Partnership. The partnership’s tax advantages and disadvantages are similar to the proprietorship. The partnership’s tax advantages and disadvantages are similar to the proprietorship. Limited partnerships can provide unique tax advantages. Limited partnerships can provide unique tax advantages. Both the partnership and proprietorship have a legal identity distinct from the partners, but this identity is only for accounting purposes. Both the partnership and proprietorship have a legal identity distinct from the partners, but this identity is only for accounting purposes. The income is distributed based on the partnership agreement, and the owners then report their share as personal income. The income is distributed based on the partnership agreement, and the owners then report their share as personal income.

TAX ATTRIBUTES OF FORMS OF BUSINESS (Contd..) Tax Issues for Corporation The corporation has the advantage of being able to take many deductions not otherwise available. The corporation has the advantage of being able to take many deductions not otherwise available. The disadvantage is that dividends are taxed twice. The disadvantage is that dividends are taxed twice. This double taxation can be avoided if the income is distributed as salary. This double taxation can be avoided if the income is distributed as salary. The corporation tax may also be lower than the individual rate. The corporation tax may also be lower than the individual rate.

S CORPORATIONS The S Corporation combines the tax advantages of the partnership and the corporation. The S Corporation combines the tax advantages of the partnership and the corporation. It is designed so that the venture income is declared as personal income on a pro rata basis. It is designed so that the venture income is declared as personal income on a pro rata basis. Shareholders benefit from all of the income and the deductions of the business. Shareholders benefit from all of the income and the deductions of the business.

S CORPORATIONS The new law provides more flexibility to S Corporation with regard to: 1. Number of shareholders. 2. Who can be allowed to own shares? 3. The role of trusts as stockholders. 4. The ability of S corporations to own more than 90 percent of stock of another corporation. 5. Distribution of profits. 6. Issuance of different classes of stock. 7. Rules affecting the tax basis of incurred loses.

ADVANTAGES OF AN S CORPORATION 1. Capital gains or losses are treated as personal income. 2. Shareholders retain limited liability protection. 3. It is not subject to a minimum tax, as C corporations are. 4. Stock may be transferred to low-income-bracket family members. 5. Stock may be voting or nonvoting. 6. This form may use the cash method of accounting. 7. Corporate long-term capital gains and losses are deductible by the shareholders.

DISADVANTAGES OF AN S CORPORATION 1. Even with the new regulations, there are still some restrictions. 2. If the corporation earns less than $100,000, then the C Corporation would have a lower tax liability. 3. The S Corporation may not deduct most fringe benefits for shareholders. 4. The S Corporation must adopt a calendar year for tax purposes. 5. Only one class of stock, common stock is permitted. 6. The net loss of the S Corporation is limited.

THE LIMITED LIABILITY COMPANY A popular new entity is the limited liability company (LLC), which offers similar advantages as the S Corporation but with more liberal tax rules under subchapter K. This form is a partnership-corporation hybrid with the following characteristics: A popular new entity is the limited liability company (LLC), which offers similar advantages as the S Corporation but with more liberal tax rules under subchapter K. This form is a partnership-corporation hybrid with the following characteristics: Where the corporation has shareholders, the LLC has members. Where the corporation has shareholders, the LLC has members. No shares are issued, and each member owns an interest in the business. No shares are issued, and each member owns an interest in the business. Liability does not extend beyond the member’s capital contribution. Liability does not extend beyond the member’s capital contribution. Members may transfer their interest only with the unanimous written consent of the remaining members. Members may transfer their interest only with the unanimous written consent of the remaining members. The standard acceptable term of an LLC is 30 years. The standard acceptable term of an LLC is 30 years. The laws governing formation of the LLCs differ from state to state The laws governing formation of the LLCs differ from state to state

DESIGNING THE ORGANIZATION Stage 1: The new venture is operated by one person, the entrepreneur, with no need for sub managers. Stage 1: The new venture is operated by one person, the entrepreneur, with no need for sub managers. Stage 2: As the business expands, the organization may be described as Stage 2. Stage 2: As the business expands, the organization may be described as Stage 2. Sub managers are hired to coordinate, organize, and control aspects of the business Sub managers are hired to coordinate, organize, and control aspects of the business Measurement, evaluation, rewards, selection, and training become necessary. Measurement, evaluation, rewards, selection, and training become necessary. Stage 3 may exist when the firm is large enough that a third level of managers is added Stage 3 may exist when the firm is large enough that a third level of managers is added