Avoiding penalties by making timely estimated tax payments.

• Author: Ellentuck, Albert B.

Editor's note: This case study has been adapted from "PPC Tax Planning Guide--S Corporations," 10th Edition, by Andrew R. Biebl and Gregory B. McKeen, published by Practitioners Publishing Company, Fort Worth, Tex., 1996.

Facts: Payton Corp., a calender-year C corporation, elects to become an S corporation on Jan. 1, 1997. * On Mar. 15, 1997, it sells an asset and recognizes $14,286 of built-in gain, which results in a built-in gains tax of $5,000. For the year ended Dec. 31, 1997, it has no other transactions that generate tax at the corporate level. * In January 1998, the corporation sells a business asset resulting in built-in gain of $8,743, which causes a built-in gains tax of $3,060. The corporation also receives passive investment income in 1998 and incurs tax on excess net passive income of $4,000. Issue: What are the corporation's required estimated tax payments for 1997 and 1998?

Analysis

An S corporation is subject to the estimated tax requirements of Sec. 6655 if the total corporate-level tax for the year is $500 or more. However, the S corporation rules vary from those that apply to C corporations.

The taxes subject to the estimated tax provisions for S corporations are:

1. The tax on built-in gains under Sec. 1374.

2. The tax on excess net passive income under Sec. 1375.

3. Business credit recapture under Sec. 1371(d)(2).

   An S corporation may also be making required payments because of the Sec. 444 election, or may be making payments because of the LIFO recapture tax, but these payments are not considered to be in the nature of a "corporate income tax" and estimated tax payments are not necessary.

   S corporations, like C corporations, generally are required to pay the estimated tax in four equal installments. Each required installment is 25% of the "required annual payment." (Corporations, including S corporations, can also use the annualization and adjusted seasonal installment methods, which may result in unequal payments; see Variation 1.)

   An S corporation's required annual estimated tax payment is the lesser of:

1. 100% of the tax shown on the return for the tax year, or

2. the sum of the following:

   1. 100% of the tax owed for the tax year, if the only taxes taken into account for that year are the taxes on built-in gains and recapture of business credit; and

   2. 100% of the tax on excess net passive income shown on the S corporation's return for the preceding tax year.

   With regard to the tax on excess net passive income, the...