Complete the case titled “Small Business Cupcakes Case” attached above. You will need to down load the case and answer the questions given. Some hints for this case are as follows:
- Does §351 apply to the proposed incorporation?
- What will be the effects in the tax basis of the transferred assets if §351 does apply?
Remember that a corporation is subject to double taxation under §336 when it later is liquidated.Once assets are transferred to a C corporation, dividend income and other recognized gains can be created by §311 when the assets are returned to the shareholders.
Be sure to take into account the non-tax implications of your recommendations, for the corporation and all of its shareholders.
Prepare a written case study analysis for the above assigned research case, minimum of 3-4 pages. The case analysis must be fully annotated with citations in proper legal form. (See writing guidelines located in Getting Started)
(Note: Attachments should be either Microsoft WORD or EXCEL documents and be sure to review the grading criteria in Getting Started)
PwC Case Studies in Taxation, © 2012, PwC, LLP
Your business tax client, Mimi Charpentier, operates a successful sole proprietorship which sells cupcakes to retail customers at three locations in Las Vegas. Mimi’s Cupcakes does not carry any inventories, because of the nature of its products. Mimi owns the three small buildings in which the shops exist. One of the stores is slightly larger than the others; it is Mimi’s original location, and it still is the site of the kitchen and the loading dock where the Cupcakes trucks daily pick up and deliver merchandise and supplies.
The work force of each store is the equivalent of 2.5 employees; the employees are paid reasonably well, and the low-pressure atmosphere of the typical work day results in a very low turnover rate. Mimi’s offers only one fringe benefit to the employees – it encourages the employees to use Health Savings Accounts for their medical costs, and Mimi’s reimburses the employee for the out-of-pocket deductible amounts, to a $1,000 maximum per employee per calendar year.
Mimi’s attorney, Gloria Willis, has urged her to incorporate
Office equipment, financial records505
Mimi’s recipe database0060the business, primarily because of the limited shareholder liability associated with corporate status, and to facilitate a business succession plan for the operation. After several years of discussions, Mimi has agreed to go ahead with this idea. She will take a sixty percent ownership interest in the common stock of the new entity; twenty percent interests will be made available to Mimi’s daughter Nancy, and to Joan Price, the chief operating officer of the business, who is not related to the other two shareholders.
Mimi has operated the business as a cash basis sole proprietorship since 2004, and she anticipates incorporating the business on July 1 of the current year. A summarized projected balance sheet for the business as of June 30 is attached.
Willis’ practice consists of general work with small business clients. She is not by any means conversant with the federal income tax rules as they apply to individuals and C corporations. In this process, Willis is concentrating on the establishment of the new corporate entity, the retitling of assets as they are transferred from the proprietorship to the corporation, and the mechanics of creating and issuing shares to the new shareholders.
Mimi has come to you with various questions about how to set up her databases to prepare for the annual Form 1120 filings, including the Schedule M-1. Corporate gross receipts will allow the continued use of the cash basis of tax accounting.
In your interviews with the three shareholders, you discover that Mimi’s life expectancy is about two years from the date of incorporation. Nancy recently graduated from community college in restaurant and hospitality management, with an emphasis in financial recordkeeping. Joan is about fifty years old, in good health, and planning to remain in charge of operating decisions for the three stores for the foreseeable future. Neither Mimi nor Joan projects that the corporation would add a fourth store, nor would it expand outside of Las Vegas, but the parties review these issues at least once a year.
The proprietorship does not carry any debt; its trade payables and receivables are disposed of in a timely fashion. Its web site allows for remote ordering, scheduled pickups, and deliveries of larger orders to customer locations. Mimi’s is active on Twitter and Facebook, where the company has about five thousand friends. This presence allows Mimi’s to plan and carry out “spontaneous” outdoor events on the stores’ patios, where high-markup products are made available in plentiful quantities.
As Mimi has told you several times, “this is a simple business, and we know how to keep our customers happy and coming back on a regular basis. I do not want the legal etc aspects of an incorporation to disrupt the good thing that we have here.” But, in your dealings with Mimi over the years concerning her Forms 1040 and employment tax obligations, you know that she expects you to give her suggestions about how her tax liabilities would be affected by decisions that she makes, and that she expects to “get it right the first time” when she makes her choices.
At Mimi’s latest appointment with her cardiologist, Cathy Duvall MD mentioned that her clinic was about to incorporate, but that Duvall would retain her individual ownership of the clinic’s land and building. Duvall was certain that there were tax and legal advantages to structuring the corporation that way, but she could not really explain to Mimi what those advantages were.
You will be meeting shortly with Mimi, Nancy, and Joan to discuss the tax aspects of the incorporation, and to address any other of their concerns that are pertinent to your expertise.
Mimi certainly will ask you to cover the issue of which assets to contribute to the new corporation, with the explanations that Duvall could not provide. Concentrate on those issues for this meeting, offering at least two alternative plans for the asset transfers.
At the meeting, Nancy will look to you for information on issues of asset basis, as well as any effects that the incorporation might have on sales/use and self-employment tax obligations. Ignore any exposure to the corporate or individual alternative minimum tax, though.
The “elephant in the room” will be the issue of Mimi’s continued involvement in the business. You should be prepared with some initial suggestions as to business succession planning, and the later transferability of the shares in Mimi’s Cupcakes Inc.
Projected Balance Sheet ($K)
Mimi Charpentier, dba Mimi’s Cupcakes
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|Original Cost||Tax Basis||Fair Market Value|
|Office equipment, financial records||5||0||5|
|Mimi’s recipe database||0||0||60|