C4-58
Several years ago, Brian formed Sigma Corporation, a retail company. Sigma uses the accrual
method of accounting. In the current year, the corporation reported the following items:
Gross profit $290,000
Long-term capital gain 30,000
Tax-exempt interest received 7,000
Salary paid to Brian 80,000
Payroll tax on Brian’s salary (Sigma’s share) 6,120
Depreciation 25,000 ($21,000 for E&P purposes)
Other operating expenses 89,000
Dividend distribution to Brian 60,000
In addition to owning 100% of Sigma’s stock, Brian manages Sigma’s business and earns
the $80,000 salary listed above. This salary is an ordinary and necessary business expense
of the corporation and is reasonable in amount. The payroll tax on Brian’s $80,000 salary
is $12,240, $6,120 of which Sigma pays and deducts, and the other $6,120 of which
Brian pays through Social Security withholding. Brian is single with no dependents and
claims the standard deduction.
a. Calculate Sigma’s and Brian’s current year taxable income and total tax liability, as
well as their combined tax liability. Also, calculate the corporation’s current E&P after
the dividend distribution.
b. Assume instead that Brian operates Sigma as a sole proprietorship. In the current
year, the business reports the same operating results as above, and Brian withdraws
$140,000 in lieu of the salary and dividend. Brian’s self-employment tax is $20,486.
Compute Brian’s total tax liability for the current year, assuming that he claims a
$35,200 qualified business income deduction.
c. Assume a C corporation such as in Part a distributes all of its after-tax earnings.
Compare the tax treatment of long-term capital gains, tax-exempt interest, and operating
profits if earned by a C corporation with the tax treatment of these items if earned
by a sole proprietorship.
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