Question

Mr. and Mrs. Tinker own a sizeable investment portfolio of stock in publicly held corporations. The couple has four children—ages 20, 22, 25, and 27—with whom they want to share their wealth. Unfortunately, none of the children has demonstrated an ability to manage money. As a result, Mr. and Mrs. Tinker plan to transfer their portfolio to a new corporation in exchange for 20 shares of voting stock and 400 shares of nonvoting stock. They will give 100 nonvoting shares to each child. The couple will serve as the directors of the corporation, manage the investment portfolio, and distribute cash dividends when their children need money. They estimate that the portfolio will generate $72,000 annual dividend income.

1. If the Tinker Family Corporation is operated as an S corporation, compute the annual income tax burden on the dividend income generated by the investment portfolio. Assume that Mr. and Mrs. Tinker are in the 37 percent tax bracket and each child is in the 12 percent tax bracket. To simplify the case, ignore any value of the couple’s management service to the corporation.
2. Compute the tax burden for the first year if Tinker Family Corporation does not have an S election in effect and distributes a $100 annual dividend per share.

Answer 1

The annual earning is 72000

The dividend earned by voting stock will be 3429 and the dividend earned by non voting stock would be 68571

(Computed on proportionate basis)

The tax burden on moving stock shall be 3429 dollars *37%=1269

The tax buden on non moving stock would be 68571 dollars*12%=8229.

The tax buden on each child would be 2057.25

If annual dividend distributed is $100

Therefore the earning on moving stock would be 2000 dollars and the earning on non moving stock would be 40000 dolars. The tax burden on moving stock would be 2000 dollars *37% =740 dollars.

On non moving stock the tax burden would be 40000*12%=4800.The tax burden on non moving stock for each child would be 1200 dollars.