Software of the Month Club 1997 March/Software of the Month Club 1997 March.iso/pc/dos/lg/sba/f302.sbe

Text File | 1996-10-07 | 49.0 KB | 1,253 lines

@Q01

             ┌───────────────────────────────────────────┐
             │  SHOULD YOU INCORPORATE?  ELECT TO BE AN  │
             │       S CORPORATION?  OR BE AN LLC?       │
             └───────────────────────────────────────────┘

  Please enter the name of your business (or your proposed
  business):

@TX
01\Q30

@Q02

  QUESTION:  Is this a business that you have already started
             (or acquired)?

@YN
01\Q03
02\Q10

@Q03

  QUESTION:  If you were to sell your business (or the stock
             of your incorporated business) today for its fair
             value, how much of a taxable gain or a loss would
             you have on the sale?  (Make your best estimate.)

              .  1 - A gain of over $1 million
              .  2 - A gain of $500,000 to $1 million
              .  3 - A gain of $100,000 to $500,000
              .  4 - A gain of $50,000 to $100,000
              .  5 - A gain of about $0 to $50,000
              .  6 - Breakeven, more or less
              .  7 - A loss of less than $50,000
              .  8 - A loss of $50,000 to $150,000
              .  9 - A loss in excess of $150,000

@MC\09
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@Q04

  QUESTION:  Is the business in question already incorporated?

@YN
01\Q05
02\Q10

@Q05


  QUESTION:  Is the corporation an "S corporation"?

@YN
01\Q06
02\Q22

@Q22

  NET OPERATING LOSS OR TAX CREDIT CARRYOVERS:  A C corporation
  that incurs net operating losses or has more tax credits than
  it can use in the current tax year can generally carry the
  losses or unused tax credits back to any of its 3 preceding
  tax years, to obtain refunds of taxes paid in those years.
  However, for a new corporation, or one that has no profitable
  prior years to carry losses or credits back to,  there is no
  other choice but to carry the net operating losses (NOL's) or
  credits over to future years, in the hope that it will
  eventually have taxable income against which a NOL or credit
  carryovers can be offset, reducing taxes in those future
  years.  (Most NOL's or unused tax credits can be carried
  forward for up to 15 tax years after the year incurred.)

  QUESTION:  Does your C corporation have substantial unused
             net operating loss or tax credit carryovers at
             present?

@YN
01\Q06
02\Q06

@Q06

  TAX LOSSES: Start up losses incurred by a regular ("C")
  corporation cannot be passed through to shareholders, but
  must be carried forward until (if ever) they can be used to
  offset future taxable income of the corporation....And a
  more-than-50% change in stock ownership of the corporation
  can severely reduce the corporation's right to use a large
  part of any such tax loss carryovers.

  S corporation elections can be very useful in the early stage
  of a business if it is losing money, due to the fact that the
  losses an S corporation incurs can be "passed through" to its
  shareholders and, in many cases, deducted on their individual
  tax returns. An S corporation can also pass through certain
  tax credits, such as various jobs credit and certain other
  business credits, which might not be utilized currently in a
  C corporation that has little or no net taxable income.

  QUESTION:   Is your corporation generating tax losses (Or do
         you expect it to?) in amounts you consider substantial?
@YN
01\Q21
02\Q07

@Q21

  The usability of a corporation's tax losses, even if it is
  an S corporation, depends upon whether those losses (or tax
  credits) can be passed through and utilized by stockholders.
  Thus, such losses may not flow through to your individual
  tax return if, for instance, they are "passive activity"
  losses; you or the S corporation are not considered "at-risk"
  with respect to the losses; or you lack sufficient "tax
  basis" in your S corporation stock to utilize any further
  losses.  Or, even if the losses or credits flow through to
  your individual return, you may not be able to use them
  currently, due to insufficient taxable income of your own in
  the current year (or preceding 3 years) against which the
  losses can be applied, or else credits may not be usable by
  you due to such factors as the alternative minimum tax (AMT).

  QUESTION:  To the best of your knowledge (only your tax
             adviser can tell you for sure about this one),
             do you think you could utilize your corporation's
             tax losses if it is an S corporation?
@YN
01\Q12
02\Q12

@Q07

  QUESTION:  How much annual PRE-TAX profit do you expect the
             corporation to earn each year in the near future
             (assuming you limit owner salaries to no more
             than $100,000 a year per owner, as a maximum) ?

             .  1 - None:  We expect to have losses, or very
                    minimal net profits, under $10,000 (as
                    defined above)
             .  2 - Between $10,000 and $100,000 profit (as
                    defined above)
             .  3 - Between $100,000 and $335,000 profit (as
                    defined above)
             .  4 - Over $335,000 pre-tax profit (as defined
                    above)

@MC\04
01\Q12
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@Q10

  TAX LOSSES:  Start-up or other losses or tax credits earned
  by an unincorporated business (sole proprietorship, LLC, or a
  partnership) can generally be passed through to the owner or
  owners, to be claimed on their individual income tax returns.
  (Unless the deductions or credits are suspended due to the
  at-risk or passive activity loss rules, or on account of
  insufficient tax basis.)  Such losses or credits cannot be
  used if the legal form of the business is a C corporation,
  but must instead be carried over to another year in which
  the corporation has taxable income.

  QUESTION:  Will your business generate tax losses or tax
             credits in the next tax year (or two), in
             amounts that you consider substantial?

@YN
01\Q12
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@Q11

  QUESTION:  How much pre-tax profit (per owner, if more
             than one owner) do you expect the business to
             earn, on average, for the next few years
             (assuming the business is not incorporated)?

             .  1 - None:  We expect to have losses, or not
                    over $50,000 profit (as defined above)
             .  2 - Between $50,000 and $100,000 profit (as
                    defined above)
             .  3 - Between $100,000 and $335,000 profit (as
                    defined above)
             .  4 - Over $335,000 pre-tax profit (as defined
                    above)

@MC\04
01\Q12
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@Q12

  Medical insurance, medical reimbursement plan expenses, and
  other "fringe benefits" such as disability insurance and
  group-term life insurance are generally not deductible
  expenses for owners of unincorporated business or shareholders
  (owning 2% of the stock or more) of S corporations.  By
  contrast, a C corporation that pays for such benefits for
  its employees, including owner-employees, is generally able
  to deduct such expenses, with the value of such coverage
  generally NOT being taxable to the employees (except for
  the value of group-term life insurance coverage in excess
  of $50,000 for a given employee).

  QUESTION:  Do you (or does your business) plan to purchase
             medical coverage, disability insurance or group
             term life insurance for you or the other owners
             of the business?

@YN
01\Q20
02\Q20

@Q20

  DIVIDENDS-RECEIVED DEDUCTION.  A C corporation may sometimes
  be used advantageously to hold dividend-paying stocks, since
  the federal tax law allows the corporation to avoid paying
  tax on 70% of the dividends it receives (80% if your company
  owns 20% or more of the stock of company paying a dividend).
  This deduction is NOT allowed to an S corporation that gets
  dividends.  Putting stocks in your corporation is not always
  a wise idea, however, despite the 70% dividends-received
  deduction.  Taking the stocks (or proceeds from their sale)
  back out of your corporation can result in taxable gains at
  the corporate level and dividend or taxable gain to you as a
  shareholder, to the extent of the value of what you take out
  of the corporation.  Thus, it can be costly if the situation
  changes and you take the stock back out of the corporation.

  QUESTION:  If you have significant dividend income from stocks,
         and in light of the foregoing discussion, would you be
         likely to benefit from the dividends-received deduction
         if your business, as a C corporation, held stocks?
@YN
01\Q13
02\Q13

@Q13

  QUALIFIED PERSONAL SERVICE CORPORATIONS:  Certain personal
  service businesses, if incorporated and engaged in rendering
  services in certain fields such as law, health, accounting,
  actuarial sciences, architecture, engineering, performing
  arts or consulting, are called "QUALIFIED personal service
  corporations." ("QPSCs") (If substantially all the stock
  is owned by employees or retired employees, etc.)  Note that
  this definition is slightly different from the definition of
  "PERSONAL SERVICE CORPORATIONS" that applies to determine a
  corporation's permissible tax year & tax accounting method.

  A "QPSC" is taxed at a higher tax rate, generally (35% flat
  rate), than other C corporations (whose tax rates start at
  15%). Obviously, this is a major disadvantage of being a QPSC.

  QUESTION:  To the best of your knowledge (we realize this is
       a VERY technical definition), is your business one that
       will be considered a QPSC, if operated as a corporation?

@YN
01\Q14
02\Q14

@Q14

  PENSION PLANS:  Both an incorporated and unincorporated
  businesses may maintain qualified pension or profit-sharing
  plans, and the limits on contributions, benefits, etc., are
  now roughly the same for corporate, Sub S and Keogh
  (noncorporate) retirement plans.  There are a few differences
  that remain, however, despite the "parity" rules that have
  generally put corporate and noncorporate plans on an equal
  footing in recent years.


  QUESTION:  Does (or will) your business maintain qualified
             pension and/or profit-sharing plans for the
             owners and employees?

@YN
01\Q15
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@Q15

  BORROWING FROM YOUR PENSION PLAN:  The tax law allows a
  participant in a qualified pension or profit sharing plan,
  in some cases, to borrow against his or her account in the
  pension or profit sharing plan, up to as much as $50,000 in
  some cases.  But such borrowing is effectively prohibited
  in the case of certain types of qualified pension or profit
  sharing plans.

  QUESTION:  How important, on a scale of 1 to 5 (with 5 being
             most important, 1 being least), is the ability to
             borrow from your company's pension plan to you
             (or to your co-owners in the business)?

@MC\05
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@Q16
  LIMITED LIABILITY.  One reason many businesses incorporate or
  become LLCs is to limit liability of the owners, in the event
  of failure.  However, lenders will usually require owners of
  most small businesses (corporations or LLCs) personally
  guarantee repayment of any loans made to the entity, as the
  lender is looking primarily to the owners, rather than
  to the assets of the corporation itself, for security.

  Thus, for many types of liabilities typically incurred by a
  small or medium-sized business, incorporation or being an LLC
  will not truly limit the owners' liability if the business
  bellies up -- except against unsecured creditors, such as
  vendors who have extended credit to the business.

  QUESTION:  How important to your business is the ability
             to limit liability by incorporating or becoming
             an LLC (on a scale from 1 to 5, with 5 being
             VERY important)?

@MC\05
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@Q17

  PERSONAL HOLDING COMPANY STATUS:  If your business derives 60%
  or more of its "adjusted ordinary gross income" from certain
  types of income (such as rents, royalties, interest, dividends,
  and operates as a C corporation, any net income that it fails
  to distribute as dividends to its shareholders may be subject
  to federal "personal holding company tax" of 39.6%, at the
  corporate level.  This penalty tax does NOT apply to an
  unincorporated business or to an S corporation; nor to a C
  corporation unless over 50% of the stock is held (directly or
  indirectly) by five or fewer people.  (A company with 50% or
  more of its "ordinary gross income" from a single passive
  category, such as rents, mineral/oil/gas royalties, copyright
  royalties, produced film rents, or active business computer
  software royalties, MAY be able to avoid personal holding
  company status if a few other technical requirements are met.)

  QUESTION:  Based on the brief description above, do you
             believe your business will be a "Personal
             Holding Company" if operated as a C corporation?
@YN
01\Q18
02\Q18

@Q30

  LIMITED LIABILITY COMPANIES.  An increasingly popular
  alternative to incorporation, is to set up a limited
  liability company ("LLC"), which offers the best of both
  worlds:  the limitations on liability of a corporation and
  the usually preferable tax treatment of a partnership.
  However, in order to obtain partnership tax treatment for
  federal purposes (and in nearly all states), the LLC must
  have at least 2 owners ("members").  (Note that federal
  tax regulations may soon allow 1-member LLCs, however.)

  Thus, to determine whether an LLC might be the best form of
  legal entity for your business, we need to first determine
  if LLC status is a realistic possibility in your case.
  (Note that if you are a sole owner, but are married, you
  can get around this ownership problem by making your spouse
  the second owner, if you wish to do so.)

QUESTION:  Does (or will) your business have more than one
           owner? (Thus making it a candidate for LLC status.)
@YN
01\Q31
02\Q02

@Q31

  CALIFORNIA MAY NOT RECOGNIZE LIMITED LIABILITY STATUS OF LLC.

  Although you may be a good candidate for operating as an
  LLC, you should be aware that California only allows certain
  types of businesses (those not requiring a state license to
  operate), to be LLCs or be treated as such.  Thus, if your
  business has significant activities in California, your LLC,
  formed under the laws of another state, could operate in
  California, but might not be accorded limited liability, and
  instead may well be treated as a plain-vanilla partnership
  under California state law.

  If so, being an LLC would offer you no advantage in that
  state vs. other noncorporate entities, in terms of liability
  protcection from creditors or lawsuit plaintiffs.

  QUESTION: Does your firm have significant business
            operations in CALIFORNIA?

@YN
01\Q32
02\Q02

@Q32

  CERTAIN BUSINESSES INELIGIBLE FOR LLC STATUS IN CALIFORNIA:

  While California has adopted an LLC law, a large number of
  businesses are not allowed to organize as LLCs in the state.
  Any kind of businesses required to have licenses from the
  state of California, such as professional service firms,
  beauty operators, barbers, auto mechanics, and other such
  businesses, are precluded from forming an LLC under state
  law in California.  Foreign (out of state) LLCs that do
  business in California, and which are subject to any state
  licensing requirement, are also presumably denied the limited
  liability status of LLCs in California.  Thus, since your
  firm does business in California, it is important for us to
  determine, as part of your entity selection process, whether
  or not yours is a business that is eligible to set up an LLC
  in California and enjoy its liability protections.

  QUESTION:  Is this business, which operates in California,
             one which is required to be licensed by the state?
@YN
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@Q18

_______________________________________________________________________

@BR\18
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@Q19

@STOP
@RD\01

  RECOMMENDATIONS:  Based on your responses to the foregoing
  questions, the "EXPERT" has come to a tentative conclusion
  as to which legal form of business appears most advisable
  in your particular situation.  (See below.)

  CAUTION:  The following recommendation has been arrived at
  by weighing and assigning points to various known factors
  regarding your business, in an algorithm that attempts to
  quantify the unquantifiable.  Since there are always
  numerous pros and cons in evaluating the optimum choice of
  legal entity, the process used by the program is a lot like
  comparing 3 oranges with 2 apples and concluding which is
  better.

  Accordingly, you should not regard the following
  recommendation as a definitive judgment, since it involves
  some very subjective choices and conclusions by the author
  of the program, and is also based on far less than complete
  information about your situation.  However, it does
  represent a serious attempt to model the thought processes
  the author, an attorney and CPA, would go through in
  advising a client as to choice of legal entity, based on
  the key facts just elicited from you.  Just remember that,
  in making "fuzzy" decisions of this type, no computer
  program is an adequate substitute for the considered
  judgment of a competent, experienced, and intuitive
  professional adviser with a full grasp of the facts and
  circumstances relating to you and your business.

       RECOMMENDATION AS TO FORM OF BUSINESS:

     |VAR|

@RD\02

  RECOMMENDATIONS:  Based on your responses to the foregoing
  question and answer session, the program is unable to
  identify any clear "Best" choice of legal entity for your
  business.  While various weightings have been given to each
  of the four basic entity choices (LLC, other unincorporated
  entity, C corporation and S corporation), and points assigned
  to each alternative, based on the largely subjective rating
  system devised for this program, there does not appear to be
  any clearly preferable entity choice in this case.

  However, for your consideration, we have provided the scores
  developed in our internal system of analysis.  These numbers
  have no real meaning, and essentially represent an attempt
  to quantify our "hunches" about the optimum legal entity for
  your situation, based on the limited data we have on your
  business.

  (Note that there is |VAR| difference in the scores we
  developed, for the first- and second-best choices.  Since
  there is a considerable lack of precision in our "fuzzy
  logic" methodology on which these scores are based, this
  one is definitely too close to call.)

@RD\03

  More useful, in our opinion, will be your consideration of
  the various pros and cons of incorporation vs. not, C
  corporation vs. S corporation, etc., which are listed below,
  all of which are derived from our analysis of what you have
  told us about your particular company.

@RD\04
   . Operating in unincorporated form is, to begin with, often
     much simpler and less costly administratively than
     operating your business as an incorporated entity.
@RD\05
     And, as you have probably already learned from
     experience, operating as an S corporation is even more
     complicated than as a regular C corporation, due to the
     complexity of the tax laws governing S corporations and
     the need for expert accounting and tax help to maintain
     the S corporation properly.

@RD\06
   . Since your business expects to incur large operating
     losses for awhile, being unincorporated would give
     you a better chance to derive some current tax benefit
     from those losses, providing you (or your co-owners, if
     any) can personally utilize the losses or tax credits
     generated.  As a C corporation, by contrast, any such
     losses (or tax credits) as are generated could not be
     utilized currently (by either the corporation or you),
     |VAR|.
     (An S corporation, of course, could generally pass
     through any such operating losses to the owner(s), much
     the same as an unincorporated business.  However, if
     you, as a shareholder, guarantee the loans taken out
     by your S corporation, there are tax traps that might
     sharply limit the amount of losses you could deduct.)

@RD\07
   . From the responses you have given, it appears that
     it could be advisable to consider liquidating your
     corporation, and recognizing a substantial tax loss on
     the liquidation of your stock.  Of course, if the loss
     is treated as a capital loss, you will only be able to
     deduct $3,000 a year against your other income (unless
     you have capital gains the loss could offset).  However,
     if your stock is eligible for "Section 1244 Stock"
     treatment, you may be able to treat the first $50,000 (or
     $100,000 on a joint return) of any loss on liquidation
     as an ORDINARY loss, which ought to be fully deductible
     in many cases.  (There are a number of technical
     qualifications in order to actually take such a loss, so
     consult a good tax lawyer or other competent tax adviser
     before concluding that you ought to liquidate your
     corporation, |VAR|.)

@RD\08
   . You may want to liquidate your C corporation and operate
     as an unincorporated entity, or else elect S corporation
     status, in order to avoid the high marginal corporation
     tax rates, which it appears in this case would be 39%
     (Federal), compared to marginal tax rates of ranging from
     about 31% to 39.6% if the business income were taxed at
     individual income tax rates, rather than C corporation
     rates.  (However, there might be significant taxes to
     recognize by the corporation upon any such liquidation,
     so electing S corporation status still be may be a better
     strategy, in the long run.  Even in this case, if you
     convert to S status, you would have to wait at least 10
     years before you could avoid a "built-in" gains tax on
     liquidation of assets that had a value in excess of their
     tax basis at the time you changed over to S corporation
     status.)

@RD\09
   . It appears that at your company's level of profitability,
     a C corporation would probably be in a marginal income
     tax bracket of 39%.  Thus an unincorporated business
     could possibly save some current federal income taxes,
     since individuals are taxed at federal income tax rates
     ranging from about 31% to 39.6%, as a general rule, at
     this same general income level.

@RD\10
   . An unincorporated business will also save on Federal and
     state unemployment taxes on the earnings of the owners,
     since as owner-employees of a corporation, unemployment
     taxes would apply to wages or salary paid to the owner --
     but no such tax applies to the business earnings of a
     partner in a partnership or to a sole proprietor, who
     take a "draw" rather than salary or wages.

   . Unincorporated businesses do not have to be concerned
     with the possible double taxation of profits, unlike
     C corporations (and, to a lesser extent, some S
     corporations).

   . An unincorporated business does not have to be concerned
     with either of the corporate penalty taxes, the personal
     holding company tax or the accumulated earnings tax, both
     of which apply only to C corporations.

@RD\11
   . One other important benefit of starting out a business in
     unincorporated form is increased flexibility, from a tax
     standpoint.  An unincorporated business can always
     incorporate, but if you have already incorporated,
     liquidating in order to dis-incorporate can give rise
     to potentially huge capital gains taxes.

@RD\12
   . Operating as a C corporation can be a real drawback in the
     case of your business, since you have indicated that your
     particular type of business is one that may be considered
     a Personal Holding Company.  If so, and you are unable
     to zero out its income each year through salary payments
     or other operating expenses, you could be in the grim
     situation of incurring double taxation on the net income
     of the corporation.  In other words, not only would your
     corporation pay tax on its pre-tax income, but there
     would also be a second tax on the remaining after-tax
     net income:  either the 39.6% personal holding company
     tax, or, if all of the after-tax net income is paid out
     as dividends to the shareholders, individual income tax
     on the dividend payments.  This is not a problem if you
     operate the business in unincorporated form, or as an S
     corporation.

@RD\13
   . Historically, perhaps the most common, pervasive reason
     for a business to be incorporated has been to achieve
     some degree of limited liability.  While such limited
     liability may not be absolute, particularly if creditors
     of the corporation, lessors, etc., require the owners of
     the corporation to personally guarantee repayment of
     corporate loans or leases, limited liability can still be
     a big advantage.  However, note that a limited liability
     company ("LLC") can now also provide to its owners the
     same degree of liability protection from creditors as a
     corporation (except for certain businesses in California).
@RD\14
     You have indicated that limited liability is VERY
     important for |VAR|.

@RD\15
     You indicated, however, that limited liability is NOT
     very important for |VAR|.

@RD\16
   . Liquidating a corporation where there is a taxable gain
     on the transaction can be costly, particularly since it
     is often difficult to determine the fair value of a going
     concern (and since the IRS may argue that your taxable
     gain is much larger than you thought it was).  Since you
     have indicated that you would probably have a substantial
     gain on liquidation of your existing corporation, the
     resulting tax liability you would personally incur is one
     good reason NOT to dis-incorporate by liquidating.  Also,
     the corporation itself may incur additional tax upon any
     liquidation if it holds assets (including intangibles
     like "goodwill" that may not even be on its books) that
     have a value in excess of their tax basis.

@RD\17
   . Because you have indicated your business is incurring
     operating losses, an S corporation would have advantages
     for you, as compared to a C corporation, since some or
     all of such corporate tax losses may be "passed through"
     to you as a shareholders, and thus should be currently
     utilizable by you in reducing your personal income tax
     liability.  By contrast, start up losses incurred by a
     C corporation cannot be used to offset income, unless
     carried over and used to reduce the corporation's taxable
     income in future years, when (or if) the corporation
     eventually becomes profitable.  A deduction today is
     usually worth far more than a possible deduction some
     years in the future.

@RD\18
   . For a business operating at an annual profit level of
     less than $100,000 or so (after owners' salaries), a C
     corporation may provide an income-splitting opportunity
     which can reduce, or at least defer, overall taxes.
     This can be done by leaving some profit (under $75,000
     a year, preferably) in the C corporation, shifting such
     income out of the owners' 28% or 31% tax brackets into
     the lower corporate tax brackets of 15% on the first
     $50,000 and 25% on the next $25,000 of corporate taxable
     income.  This won't work if the corporation is a
     "qualified personal service corporation," thus subject
     to tax at a flat rate of 35% on all its net income. But
     you have indicated that the business may have profits
     of less than $100,000 a year, and that it will not be
     considered a "qualified personal service corporation"
     if operated as a C corporation, so you may be able to
     benefit to some extent from income-splitting by using
     |VAR| as a second taxpayer.

@RD\19
   . Unlike a sole proprietorship, partnership, or LLC,
     a corporation has continuous existence and does not
     terminate upon the death of a stockholder or a change
     of ownership of some or all of its stock.  Creditors,
     suppliers, and customers often prefer to deal with an
     incorporated business because of this greater continuity
     of the enterprise that is provided by the corporate form.
     Of course, like other forms of business organization, a
     corporation can be terminated by mutual consent of the
     owners, or even by one shareholder in some instances.

   . A corporation also provides advantages, particularly when
     compared to a partnership, of centralized control, since
     state corporate laws typically provide rules for election
     of a board of directors by the shareholders and selection
     of a president and other corporate officers to manage
     the everyday affairs of the business, by the board of
     directors.  Lines of authority are usually much clearer
     and more formal than in the usual partnership arrangement.
     A limited liability company (LLC) usually lies somewhere
     in between:  An LLC that has an operating agreement that
     appoints certain individuals as managers can have much of
     the centralized control characteristics of a corporation,
     while an LLC with no such operating managers will tend to
     look more like a general partnership in this respect.

@RD\20
   . The ability of participants to individually borrow
     against their accounts under a pension plan can be a
     significant benefit of having a pension plan for your
     employees.  However, borrowing is allowed only in the
     case of "qualified" pension or profit sharing plans of C
     corporations. Such borrowing is subject to a "prohibited
     transactions" penalty tax in the case of a plan
     maintained by unincorporated business (Keogh plan) or by
     an S corporation.  You have indicated that the ability
     of the participants to borrow from your company's pension
     or profit sharing plan is|VAR| important to you.

@RD\21
   . The corporate "dividends-received deduction," under
     which a C corporation (but not an S corporation) can
     exclude 70% or more of dividends it receives from
     corporate stock investments from taxable income, is a
     valuable potential tax benefit of operating a business
     in the form of a C corporation.  You have indicated
     that this may be an important tax benefit in your case.

@RD\22
   . The federal tax laws permit corporate employers (except
     for S corporations) to provide a number of different
     fringe benefits to employees who are owners (shareholder
     employees), on a tax-favored basis.  Generally, the
     employer is allowed to deduct the insurance premiums or
     other payments it makes on behalf of the employee, while
     the employee is not taxed on the value of the benefit
     provided.  Thus, being incorporated (as a C corporation)
     has important advantages for your business if you wish
     to obtain group-term life insurance, health/accident
     coverage (insured or otherwise), or disability insurance
     coverage for the principals in your business, since you
     will not be able to obtain this favorable tax treatment
     as an S corporation, or as a partner or sole proprietor
     in an LLC or other unincorporated business, with regard
     to these kinds of fringe benefit plans.

@RD\23
   . Because your C corporation has substantial unused net
     operating loss (NOL) or tax credit carryovers, liquidating
     the corporation would have a major disadvantage:  Those
     NOL or credit carryovers, which might otherwise be used
     to offset future taxable income of the corporation
     someday, would vanish forever if your corporation were
     liquidated and turned into an unincorporated business.
     Also, if S corporation status were elected, those
     carryovers would then become useless until after the
     corporation elected to revert back to C corporation
     status once again--they cannot be used to shelter any
     income earned while operating as an S corporation.

@RD\24
   . You have indicated that your business is a professional
     service firm.  As a C corporation, you will incur a
     major disadvantage, since all of the taxable income of a
     "qualified professional service corporation" is subject
     to a flat federal tax rate of 35%.  This is higher than
     the individual tax bracket (except for high-income
     individuals) and a serious disincentive to operating
     a professional firm as a C corporation.

@RD\25
_______________________________________________________________________

         S CORPORATIONS VS. C CORPORATIONS:

         Advantages of C Corporations over S Corporations--

   . C corporations are generally less complex entities to
     maintain, from a tax standpoint, than S corporations.

   . C corporations (except for certain "personal service
     corporations"), can offset losses from passive activities
     against active business income.  S corporations cannot.

   . C corporations are entitled to the dividends received
     deduction on any dividend income they receive; S
     corporations are not.

@RD\26
   . C corporations are separate taxpaying entities, so at
     certain levels of corporate net income, generally under
     $100,000, a C corporation may be used advantageously to
     split income, paying tax at rates lower than if the
     income were all taxed to individual shareholders, as
     in the case of an S corporation.

@RD\27
   . Shareholder-employees of C corporations have advantages
     over S corporation shareholders (who own over 2% of the
     stock) with regard to excluding from income the cost of
     certain fringe benefits for owners, such as health care
     coverage, group-term life insurance, and long-term
     disability insurance.

@RD\28
   . Owner-employees may borrow from their qualified pension
     or profit sharing plans, if the plans are sponsored by
     a C corporation.

@RD\29

         Advantages of S Corporations over C Corporations--

   . S corporations do not usually have to be concerned about
     possible double taxation of corporate profits, since
     their profits are generally taxed only once, to their
     shareholders.

   . Also, S corporations are not subject to corporate
     penalty taxes, such as the personal holding company
     tax or the accumulated earnings tax, which apply only
     to C corporations.

@RD\30
   . If a new corporation is incurring losses, shareholders
     of an S corporation may be able to utilize the tax
     losses currently, while a C corporation can only carry
     the losses over till it eventually (if ever) becomes
     profitable.  (However, in some cases, the S corporation
     shareholders may be unable to utilize the tax losses
     for many years, if ever.)

@RD\31
   . Conversely, at relatively high levels of taxable income
     (generally between $100,000 and $335,000),  S corporation
     shareholders may pay tax at a lower rate than a C
     corporation (which is in a 39% marginal bracket at that
     income level) would pay on the same income.

@RD\32
   . It appears that at your company's level of profitability,
     a C corporation would probably be in a marginal income
     tax bracket of 34%. (The 35% rate doesn't begin until $10
     million for corporations.)  This is a lower rate than for
     an unincorporated business, since individuals are now
     taxed at federal income tax rates of at least 39.6%, as a
     general rule, at taxable income levels of over $250,000.

@RD\33
   . While a limited liability company (LLC) might be an
     attractive alternative to incorporation in your situation,
     this analysis has not considered an LLC as a possible
     choice, as you indicated that the business in question,
     |VAR|, has only one owner.

     All but a few states require that an LLC must have at least
     two members, and even an LLC formed in one of those states
     (such as Arkansas) will not be given favorable partnership
     tax treatment by the IRS, but will instead be taxed as a
     corporation.  Thus, if you set up such a 1-owner LLC, it
     would not only be subject to double taxation (at both the
     entity level and individual level, on any "dividends" you
     took out of the business) like a corporation, but would
     not afford you the limited liability protection of a
     corporation, except in a few scattered states.  Thus, this
     program will not consider the LLC entity choice, unless
     you indicate that you have at least two owners in your
     business, since a 1-owner LLC will generally be a disaster
     waiting to happen.

     However, note that proposed IRS regulations, which may have
     become effective by the time you read this, would allow
     1-person LLCs, and would allow you to ignore the treatment
     of such an LLC for tax purposes, in effect treating it like
     a sole proprietorship.  Even if such regulations have gone
     into effect, you may still be unable to operate as a single
     owner LLC until each state where you carry on your business
     has changed its laws to permit single owner LLCs.

@RD\35
   . While a limited liability company (LLC) might well be an
     attractive alternative to incorporation in your situation,
     this analysis has not considered an LLC as a possible
     option for you, since you indicated that the business in
     question has significant operations in California and is
     engaged in a state-licensed business.  Therefore, you would
     not be able to set up an LLC under California's LLC law,
     and even a "foreign" LLC you might form under the laws of
     another state might not provide you with limited liability
     protection for your California operations.

@RD\36
   . You have indicated that your firm does a significant amount
     of its business in California, which severely limits the
     number and type of firms that may obtain limited liability
     protection as LLCs.  However, you further indicated that
     your business is not of a type that must be licensed by
     the state of California, and thus you should be able to
     operate in the form of a limited liability company in
     California, should you wish to do so.

@RD\37
   . It appears that your firm could obtain the tax benefits
     of not being incorporated, while still being able to
     have the advantage of limited liability, by operating
     as a limited liability company (LLC), a relatively new
     type of entity that it seems you should be able to
     utilize.  You have indicated that: (1) your firm has
     more than one owner, and (2) that you do not have
     significant business operations in the state of
     California, a state which does not yet recognize the
     limited liability of LLCs engaged in most types of
     state-licensed businesses.  Thus you probably will be
     eligible to form an LLC.  (But note also, that in many
     states, certain types of professionals, like physicians,
     are prohibited from operating in LLC or LLP form, so
     you will need to find out if your particular profession
     or occupation is barred from operating as an LLC or
     LLP in any state where you carry on your business or
     profession, which might rule out the feasibility of
     adopting one of these new forms of legal entity in
     your case.)

@RD\38
_______________________________________________________________________

     BOTTOM LINE:  Of all the possible forms of legal entity
     available to you, which include C and corporations, LLCs,
     and other unincorporated (but full-liability) forms of
     business, it appears that the relatively new LLC entity
     may be your most nearly ideal choice, as it offers many
     of the same advantages of other unincorporated forms of
     business, but also provides the same degree of limited
     liability as a corporation for your business.
_______________________________________________________________________

@RD\39
   . In this situation, based on the information you have input,
     while there is no clearly "best" choice, it does seem
     fairly clear that in your case either a C corporation or an
     S corporation would appear to be somewhat preferable to an
     unincorporated form of business, however.

@RD\40
   . In this situation, based on the information you have input,
     while there is no clearly "best" choice, it does seem
     fairly clear that in your case that either a limited
     liability company (LLC) or other unincorporated form of
     business would appear to be somewhat preferable to either
     a C corporation or an S corporation, however..

@RD\41
     In any case, you have indicated that your S corporation's
     losses are not likely to currently deductible by you,
     which makes the S corporation much less advantageous for
     you from a tax standpoint at present.

@HELP

@H\01

   Type in the name of your business,
   then press "Enter" key.

@H\02

Enter "Y" ("Yes")  if you are already in
business.   If you are still planning to
start or acquire the business, enter "N"
("No").

@H\03

Note that if you were to sell your stock
in an S corporation,  your tax basis for
the stock is likely to be something more
or less than your  original cost,  since
income  or contributions  to  capital of
the corporation will have increased your
tax basis, and tax losses  and dividends
will have decreased your basis.   So you
will need to use your ADJUSTED tax basis
for your stock,  not its original basis,
in "guesstimating" your gain  or loss on
stock of an S corporation.

@H\04

 Answer this question "Y" for "Yes" or
 "N" for "No."

@H\05

An "S corporation" is a corporation that
has made an election (on Form 2553)  for
Federal income tax purposes to have most
or all of its income & all of its losses
taxed directly to its shareholders,   in
lieu   of paying  tax  at the  corporate
level.   A corporation  that is NOT an S
corporation is called a "C corporation."

Corporations may also elect treatment as
S  corporations  for  state  income  tax
purposes, in all but a few states.

@H\06

Answer "Y" ("YES") if you anticipate tax
losses by your corporation,  EVEN IF you
anticipate that such losses might not be
currently utilizable for some reason, by
a C corporation, or if passed through to
you by an S corporation.

@H\07
In  computing  your  estimated  pre-tax
profits, for purposes of this question,
make the  hypothetical assumption  that
each  owner  will take out no more than
$100,000 a year in salary.

Thus,  as an example,  if you  actually
intend to take out $150,000 salary next
year,  add  back  $50,000 to  corporate
pre-tax income to do this calculation.

@H\10

Answer  "N"  ("NO")  if  you  anticipate
substantial  losses,  or credits but for
some reason,  such as  passive  activity
loss or  at-risk  loss restrictions,  or
insufficient  "tax basis,"  you  do  not
expect to be able to immediately use the
losses  (or credits)  on your individual
income tax return.

@H\11

In computing pre-tax profit for purposes
of  answering  this  question,   do  not
subtract  draws or  salary taken  out of
the business by you, or by other owners.

@H\12

Medical, disability, and group-term life
insurance fringe benefits for the owners
of a  C  corporation  are  treated  very
favorably for  tax purposes.   Not  only
is the  amount  paid for such  insurance
mostly nontaxable to the employee-owner,
but the  benefits  (insurance  payments,
etc.)  are  generally  tax-free  to  the
recipient,  as well,  except  disability
benefits (which are generally taxable to
the employee,  if the premiums were paid
by the corporation).

@H\13

To  be  a QPSC,  a corporation  must be
engaged almost exclusively in rendering
services in  one of the fields  listed,
and must be "substantially" (95%) owned
by its employees, retired employees, or
the estate of either (or by an heir, up
to 2 years after death).

The definition of a Qualified  Personal
Service Corporation is very complex and
difficult to explain to  anyone but tax
lawyers. At this point, you may wish to
exit to the menu of consulting subjects
and go thru the Q & A routine on QPSCs.

@H\14

Note that a  Keogh plan, a Section 401K
plan, or an ESOP is a qualified plan.

However, an "SEP" ("Simplified Employee
Pension  plan"), in which  the employer
contributes  to IRA accounts set  up on
behalf of employees,  is NOT considered
a qualified  plan for purposes  of this
analysis.

@H\15

In general,  a participant in a pension
or profit sharing plan may borrow up to
$50,000 from the plan, but not over the
larger of the following two amounts:

   . One-half of his or her vested
     benefits under the plan; or

   . $10,000.

An owner-employee  is  prohibited  from
borrowing at all from an  S corporation
plan,  or  from  a  Keogh  plan  (of an
unincorporated business).

@H\16

Some  types of corporations, such as the
typical professional corporation in many
states,  provide little, if any,  limits
on liability,  because the  laws in many
states provide that such corporations do
NOT limit liability  for claims  such as
professional malpractice damages,  which
are a  major area of  exposure for  most
types of professional corporations.

Also, where professionals are allowed to
operate in LLC  (or LLP) entities,  they
are generally  subject to  similar rules
with regard to malpractice claims.

@H\17

"Adjusted Ordinary Gross Income"  is the
ordinary GROSS income (excluding capital
gains)  of  a  corporation,  before  any
deductions,  except  certain adjustments
applicable to  rental income and mineral
and oil and gas royalty income (such  as
depreciation or depletion, property tax,
interest  and  rents  paid),  and  other
miscellaneous adjustments applying  only
to  certain  kinds of  special taxpayers
and types of income.

@H\20

Note that if your C corporation borrows
money to finance or carry its purchases
of dividend-paying stocks,  in order to
benefit  from  the  dividends  received
deduction,  its interest deduction will
be reduced.  It cannot  deduct interest
incurred to buy tax-free investments.

@H\21

Note that losses passed through by an S
corporation to its shareholders are not
necessarily deductible by a shareholder
if the shareholder has  used up all the
"tax basis" of his stock (plus loans he
has made to the corporation).   Nor can
such losses be used if considered to be
"passive activity" losses,  and if  the
shareholder  does not  have income from
other  passive activities  that he  can
offset the passive losses against.

@H\22

Note that your  corporation may be very
profitable,  with  significant  taxable
income and  tax liability,  and yet may
still have significant tax credits that
it is  carrying  forward,  due  to  the
complex  interplay between  tax credits
and the alternative minimum tax ("AMT")
under the  tax law.  Liquidation of the
corporation would cause such carryovers
(as  well as  any NOL carryovers) to be
lost forever.

@H\30

Note that most state laws require  that
an LLC have at least two owners and the
IRS position is that a single-owner LLC
will be treated as a corporation -- but
proposed new IRS regulations, which may
go into effect very soon,  would change
this to much more  favorable treatment,
so that LLCs would be treated like sole
proprietorships.  However, since it may
be several years before most state laws
are amended to permit 1-owner LLCs,  we
will not consider  your operating as an
LLC as a viable option in this exercise
unless your firm has 2 or more owners.

@H\31

Answer "Y" (Yes) if your firm  operates
in California to a  significant degree,
or answer "N" (No) if it does not.

@H\32

Note that  some  state-licensed  firms,
presently limited to  certain law firms
and  accounting firms  that  meet  very
stringent  financial  responsibility or
malpractice insurance requirements, are
allowed by California to set up limited
liability partnerships ("LLPs"),  which
are similar  to LLCs and which do offer
some partial limitation of liability to
lawyers and accountants,  from  certain
types of creditors. But for purposes of
this exercise,  we will assume that you
will not qualify  for either LLC or LLP
status if a law or accounting firm.

@END