Those expenses that are attributable to the trade or business of the corporation are deductible. All of the ordinary and necessary expenses paid or incurred during the taxable year in carrying on a business are deductible. "Ordinary and necessary" means that the expenses are common (or accepted) in the particular business or profession and that they relate to producing the current year's income.
Executive Compensation
A publicly held corporation may not deduct compensation expenses in excess of $1,000,000 paid to the CEO or the four other most highly compensated officers unless based upon qualifying commissions or a performance goals plan of the company.
Bonus Accruals (Non Shareholder / Employees)
in the tax year when all events have occurred that establish a liability with reasonable accuracy, provided they are paid within 21/2 months after year end.
Bad Debts-Specific Charge-Off Method
Accrual Basis
Accrual method taxpayers must use the specific charge-off method for tax purposes. Thus, most taxpayers will write-off bad debts as they become worthless or partially worthless. (The allowance method is still generally required for financial accounting purposes, but is not allowed for tax purposes.)
Cash Basis
A very important point for purposes of the CPA exam is to be aware of bad debts of cash-basis taxpayers. Because a cash-basis taxpayer has not included the amount in gross income, a bad debt is not deductible, except in the case of an uncollectible check.
Business Interest Expense
General-Business Interest Expense
All interest paid or accrued during the taxable year on indebtedness incurred for business purposes is deductible.
Interest Expense on loans for investment
Interest on loans for investment is limited to "net investment income (taxable)." This is the same limitation on deductibility as an individual's investment interest. (Interest on loans to purchase tax-free bonds are not deductible.)
Prepaid Interest Expense
Prepaid interest expense must be allocated to the proper period it is associated with.
Business Losses or Casualty Losses Related to Business
Generally, any loss sustained during the taxable year and not compensated for by insurance or otherwise is deductible. The loss may be treated as an ordinary loss or a capital loss, depending upon the type of asset involved in the casualty. Business casualty losses are treated slightly differently than for individuals. Business casualty differs from that of individual (personal) casualty in several ways. Two important differences concerning business casualty; there are no $100 deductible and no 10% of AGI reduction.
Charitable Contributions (10% of Taxable Income)
Corporations making contributions to recognized charitable organizations are allowed a maximum deduction of 10% of their taxable income. Any disallowed charitable contribution may be carried forward for five years. Any accrual must be paid within 2 1/2 months of the taxable year-end.
Total taxable income is calculated before the deduction of:
- Any charitable contribution deduction;
- The dividends-received deduction;
- Any net operating loss carryback; or
- Any capital loss carryback.
Organizational Expenditures and Start-Up Costs
The corporation may elect to amortize its organizational expenses and start-up costs over a 60-month period for tax purposes, beginning with the first month of corporate operations.
Included Costs
Allowable organizational expenditures and start-up costs include fees paid for legal services in drafting the corporate charter, bylaws, minutes of organization meetings, fees paid for accounting services, and fees paid to the state of incorporation.
Excluded Costs
The costs do not include costs of issuing and selling the stock, commissions, underwriter's fees, and costs incurred in the transfer of assets to a corporation.
NOTE: Under Tax rules Organizational and Start-Up Expenses are amortize over 60 months and under GAAP Rule they are expensed in the first year.
Amortization, Depreciation, and Depletion
Goodwill, covenants not to compete, franchises, trademarks, and trade names (all acquired after August 10, 1993) must be amortized on a straight-line basis over a 15-year period beginning with the month such intangible was acquired. For depreciation and depletion expense, corporations use the same rules as individuals, as discussed earlier.
Life Insurance Premiums (Expense)
Corporation Names Beneficiary (Key-Person)
Premiums paid by the corporation for life insurance policies on key employees are not deductible when the corporation is directly or indirectly the beneficiary.
Insured Employee Names Beneficiary (Fringe Benefit)
If the premiums are paid on insurance policies where the beneficiary is named by the insured employee, such premiums are deductible as an employee benefit.
Business Gifts
Business gifts are deductible up to a maximum deduction of $25 per recipient per year.
Business Meals and Entertainment
Business meals and entertainment expenses are 50% deductible to the corporation.
Penalties and Illegal Activities Not Deductible
Bribes, kickbacks, fines, penalties, and other payments that are illegal under federal law or under a generally enforced state law are not deductible. Similarly, the top two-thirds of a treble damage payment is not deductible if the taxpayer has been convicted of an antitrust violation.
Taxes
All state and local taxes and federal payroll taxes are deductible when incurred on property or income relating to business. Federal income taxes are not deductible. Foreign income taxes may be used as a credit.
Lobbying and Political Expenditures
Lobbying expenses incurred in attempting to influence state or federal legislation are not deductible. Direct-type lobbying expenses in connection with local governmental lobbying are deductible. Political contributions are not deductible.
Capital Gains and Losses
Capital Losses Deduction Not Allowed
The $3,000 deduction for capital losses available to individuals is not allowed to corporations. Thus, a corporation can only use capital losses to offset capital gains.
Capital Loss Carryover
Net capital losses are carried back three years and forward five years. They are carried over as short-term capital losses and are applied only against capital gains.
Capital Gains Tax Calculation
Capital gains are taxed at the same rate as ordinary corporate income (i.e., no maximum 15% rate as with individual taxpayers).
Net Operating Losses
Corporations are entitled to the same net operating loss (NOL) as individuals. The carryback period is 2 years and the carryforward period is 20 years, however, the following additional points should be noted when calculating the corporate NOL:
- No charitable contribution deduction is allowed in calculating the NOL.
- The dividends received deduction is allowed to be deducted before calculating the NOL.
