This research examines the taxation of distributions made by Subchapter S Corporations and the use of accumulated adjustment accounts by such corporations. These two topics are closely interrelated; however, they are discussed separately in this paper.
The form of business organization has a direct impact on the financial structure and financial performance of a firm. This impact results from differences in income tax liabilities for different types of business forms, and differences in the abilities of the different types of business to generate capital. An important organizational forms for many small business owners to consider is the Subchapter S Corporation.
The number of shareholders in a Subchapter S Corporation is limited to 35. To retain a Subchapter S status, a corporation cannot be a member of an affiliated group. The purchase by a Subchapter S Corporation of 80 percent or more of the stock of another corporation terminates the Subchapter S Corporation election of the acquiring Subchapter S Corporation and of the acquired corporation if the acquired corporation also is a Subchapter S Corporation.
The attraction of the Subchapter S Corporation lies in the ability to better manage federal income tax obligations in many instances. Subchapter S corporations are permitted to make an election whereby shareholders will be taxed (for federal income tax purposes) as individuals, as opposed to taxing the business organization as a corporation and then taxing individual shareholders on income derived from the corporation.
Business operations organized as S type corporations for federal income tax purposes have the option of electing to be taxed as partnerships (wherein corporate shareholders are taxed as individuals, and the S corporation itself is not subject to federal income tax). Such election permits tax payers to receive the advantages of limited liability (through the corporate form of organization), whi...