Incorporating a single-owner business.

• Author: Swenson, Michael C.
• Position: CASE STUDY

This case study has been adapted from PPC's Tax Planning Guide--Closely Held Corporations, 33d Edition (April 2020), by Albert L. Grasso, R. Barry Johnson, and Lewis A. Siegel. Published by Thomson Reuters/Tax & Accounting, Carrollton, Texas, 2020 (800-431-9025; tax.thomsonreuters.com).

Other than C and S corporations, there arc two types of single-owner business entities--sole proprietorships and disregarded entities. The former is not a separate business entity, which is why sole proprietorships provide no liability protection for the owner, while the latter is a separate business entity. As a practical matter, single-owner disregarded entities often are synonymous with single-member LLCs (SMLLCs). Despite the difference in liability protection, the activities of an SMLLC are treated much the same as a sole proprietorship. In particular, an SMLLC is not required to file a separate income tax return. Instead, the owner reports the SMLLCs income and expenses on his or her return.

Steps to follow in incorporating a sole proprietorship

A key step in a successful sole proprietorship incorporation is to follow the tax-free incorporation guidelines of Sec. 351 and to establish a clear cutoff from operations as a proprietorship to operations as an incorporated entity.

In some cases, accounts receivable should be retained by the organizer and collected outside of the corporate structure. Cash could be retained by the organizer and loaned to the corporation as needed. Once cash or other assets are contributed to a corporation, it is difficult to transfer them back to the shareholder without triggering taxable income to either the shareholder or the corporation. However, the legal and business consequences of keeping assets outside of the corporation must also be considered.

Purchase stock

The first step is to have an incorporator incorporate the chosen entity and issue stock to the owner in exchange for cash. A typical scenario would be to issue 1,000 shares at $1 per share with a 10 cents-per-share par value. The new corporation now has SI,000 cash and $1,000 equity.

Determine key account balances The next step is to determine the accounts receivable and accounts payable balances as of the chosen cutoff date. In addition, a depreciation schedule must be prepared that reflects depreciable basis and accumulated depreciation for each asset that is transferred to the new incorporated entity through the cutoff date.

Accounts receivable and payable

In a...