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Tax Law (Questions About Taxes)/tax question homework problem


Ben Grimm is a 40% partner in We Four, LLC a super-heroing service organization reporting on a calendar year on the cash basis.  (He does most of the heavy lifting). Reed Richards has 40%, he is the brains. Sue Richards has 10%--they never see her doing anything. Her brother Johnny Storm has the other 10%--he gets too hot under the collar to deal with the customers.
  Feeling unappreciated and despondent (he had just returned from the Negative Zone) Ben found out Johnny had been dating his girl, Alicia—not her fault, she can’t see the difference—he has decided to retire (again) and move to the country with his Aunt Petunia.
  The LLC is on a calendar year. At the end of 2013, the balance sheet read as follows:

  Assets      Basis          FMV
         $ 100,000          $ 100,000
         -0-          180,000
         30,000          50,000
         20,000          125,000
         75,000          95,000
     Total Assets         
         $225,000          $  550,000
     *We Four used to sell rebuilt super equipment to new super heroes but this never took off. This is the remaining inventory they are selling off at a discount. Now they are a purely service agency.
     **Some they bought from Stark Industries, thus the basis, some Reed invented. For this purpose, these are not hot assets.
  Debts      Basis          FMV
  Notes Payable          
         $ 100,000         $100,000
         $     -0-          $  80,000
     Total Debt         
         $ 100,000         $180,000

  Capital Accounts  Basis          FMV
  Reed Richards          
         $  50,000          $148,000
  Ben Grimm          
         $  50,000          $148,000
  Susan Richards         
         $  12,500          $  37,000
  Johnny Storm          
         $  12,500          $  37,000
     Total Equity         
         $125,000          $370,000
  Total Debt & Equity         
         $225,000          $550,000
  The LLC is anticipating a total net profit for the year of $160,000 of which $90,000 (prior to payment of old A/P) was generated as of June 30, 2014—as if the books were closed as of that date. As of that date, the LLC had paid down it’s A/P by $40,000 but had increased its Notes Payable by $60,000 (Reed had invented another impossible device to save the world from an improbable menace at the last moment—look I don’t write these stories—and futuristic parts are not cheap even with a frequent buyer discount from Stark Industries). With Ben taking it easy (he was the collection department) A/R have increased by $20,000. Cash increased by $50,000 ($90,000 {profit} + $60,000 {additional Note Payable} - $40,000 {payment on A/P} - $60,000 {additional equipment}.  The borrowed funds were invested in a new Skrull detection system and a subterranean tracking system to monitor the Mole man (again, I don’t write this). Other assets are the same. There have been no distributions during the year.
  Ben wants to retire effective as of the June 30, 2014 date (Dr. Doom is planning another of his failed attempts to kill Reed later in the year and he’s tired of clobberin’ Doombots).
His outside basis as of December 31, 2013 was his capital account basis plus his share of liabilities. The LLC has agreed to pay him the sum of $ 250,000  in liquidation of his interest. We Four does not have sufficient cash available for this so has offered to pay him in 4 installments of $62,500 each. The first installment will be paid on December 1, 2014, and the remaining installments on the 1st day of July of each succeeding year.

I.   On the first meeting:
a.    Ben wants to know how he will be taxed (“it’s all capital gain, right?”, he asks.)
b.   Reed wants to know how the LLC should account for 2014 income, and what effect these payments will have on the LLC return. Yes, you asked and they can’t find an operating agreement (the equivalent of a partnership agreement). Johnny had a temper tantrum (what else is new) and burned it up. How do they report this each year?

II.   On your second meeting:
a.   Reed remembered that he had secured a copy of the partnership agreement in an alternate universe where story lines are logical. It does contain a provision requiring the LLC to pay a retiring partner his or her share of goodwill.
b.   How does this change the picture? It does not state how to allocate payments. They have agreed to let Ben decide how to allocate this year’s income---within the rules?
III.   Ben likes to tinker and may take the inventory as part of his payment this year. He hasn’t decided but asks:
a.   What if he opens an equipment shop down on Yancey Street and uses this as his opening inventory?
b.   What if he just builds himself a personal fantasti-limosine to ferry him and Alicia around?
c.   How will his decision affect his tax picture and that of the LLC?
IV.   Reed calls. He wants to know if there are any planning opportunities the LLC should consider as part of this buy-out?

1.   You may want to adjust the balance sheet as of 6/30/2014 to see what happens.
2.   Determine what is ordinary income and capital gain/loss for Ben and how would that change under the options he and Reed suggest?
3.   What is an income payment or capital payment for the LLC?
4.   What could the LLC deduct and how would they structure it to do so?
5.   After the buy-out, what elections might the LLC want to make and why or why not?

I've answered this one before:

Since this is an LLC, it is disregarded for tax purposes. So the four are just partners, and WE four LLC files a general partnership return 1065. The 1065 attributes all the profits (and much of the expenses to the individuals for them to attempt to deduct it on their personal return) to be calculated on a schedule C attachment to their personal 1040. 100% of the monies and value attributed are subject to Social Security and Medicare. All of this will be itemized on the K-1 distribution form that WE Four LLC gave each partner at the year end.

WE Four, LLC attributed to the owners (as all good passthroughs should) 100% of their net taxable whether or not We Four LLC gave anyone of the quad a quarter.

Yes, Ben will be taxes on money he did AND DID NOT receive. The increase in inventory is taxable. Yes, they will all be paying about as much tax as they possibly could. What does Ben do about the inventory? Well, be ecstatic that if he can sell it he won't have to pay more in taxes on it. Except the inventory that was already sold of course.

Is Ben planning to contribute the inventory to Clobber This as capital? Or is it consigned, or sold to Clobber this?

Receivables? Assuming a cash accounting method, and not accrual, he would not pay taxes until it is collected. Whohoo, way to give it those Federales, not pay them taxes yet.

The LLC attributed the basis in the car the first year, and has been attributing the depreciation. Nothing can be done now. But the tax event comes when the car is sold. If it sell at above depreciated value, then he would have to pay taxes on the recaptured depreciation.

Under MACRS he can only depreciate about $18000 worth of vehicle over the first 4 years. If he wants to use a different depreciation method than the one that is specifically described by the IRS he is free to choose that, but we call those decisions: "Good Til Audit" at which point he would be required to pay all the back taxes, penalties and interest, the amount of penalties would relate to whether the error was intentional or a mistake. So let's go with a higher penalty.

In my mind, trying to beat the IRS out of a few hundred green backs a year, when it will cost you all of those and lots more, PLUS the time to deal with the audit is a disincentive. But Superheroes are motivated by something other than money.

An LLC does not have to pay owners commensurate with their ownership percentage, as you noted in the distro list that you gave.

The IRS does not tax based on ownership percentage, they tax based upon dollars attributed. If Ben gets the same money next year he pays the same tax, regardless any new owners being listed.

If Ben is looking to cut taxes, there are option. Call me and I'll explain the really goods ones, but I'll give you a really easy one right now, in fact we did a lot of research to get this tax cutting program designed. it is the easiest system around and it is virtually unlimited.  Traditional tax reduction techniques require huge efforts, you could buy real estate, but then you have to be a night-time plumber and weekend landscaper. Your clients are probably already preoccupied. This simple program is far easier than that. In fact all it takes is three lines of hand written text and a signature and they can have as big a tax write off as they would like. If they wanted a $300,000 tax write off, they can have it. If they wanted a million dollar write off, they can have it. And again it is just a few lines of writing and a signature.

So if the Four really want to pay less in taxes, it can be done. How far would they like to reduce their taxes? Do they want to get down to zero taxes paid?

If so and the net taxable revenue is $300,000, then all Reed has to do is take out a We Four LLC check. On the top right put the date (1 line of text), on the first full line, put Richard Fritzler and $300,000, on the line under that, write Three Hundred Thousand Dollars and No/00. and sign it at the bottom. I'll take care of picking it up and depositing it, so that is work they don't need to do.

Pretty easy huh. And a real deduction. for as much as they want.

Like I said there are better ways, but that one is easy. So call me if you want to know some of the BETTER ways to drastically reduce the tax bite for that business, or your business. 702 792-3392

Tax Law (Questions About Taxes)

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Richard Fritzler


Specializing in Business and Corporate taxation. Comparing the advantages and requirements of different business entities, such as Sub-S Corporations, LLC`s, Partnerships (Both Limited and General), Doing Business as a Sole Proprietor, or Using a C-Corporation. Issues regarding K-1 distributions, 1040, schedule C, 1120, 1120s. Are you considering domiciling a Corporation in a low tax state? I can review the benefits and misinformation that exists.


I have been in the business of assisting business owners in reducing their taxes and liability since 1986.

National Small Business Owners Association.
Contributing author to "The Corporate Standard Newsletter".

Contributing author to "The Corporate Standard Newsletter".

I have been in the business of assisting business owners in reducing their taxes and liability since 1986.

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