Question

C3-65 Tax Stragegy Problem Mike Barton owns Barton Products, Inc, the corporation has 30 employees. Barton Corporation expects $800,000 of net income before taxes in 2017. Mike is married and files a joint return with his wife, Elaine, who has no earnings of her own. They have one dependent son, Robert, who is 16 years old. Mike and Elaine have no other income and do not itemize. Mike's salary is $200,000 per year (already deducted in computing Barton Corporation's $800,000 net income). Assume that variations in salaries will not affect the U.S. production activities deduction already reflected in taxable income.

a. should Mike increase his salary from Barton by $50,000 to reduce the overall tax burden to himself and Barton Products? Because of the Social Security cap, the corporation and Mike each would incur a 1.45% payroll tax with the corporate portion being deductible.

b. Should Barton employ Mike's wife Elaine for $50,000 rather than increase Mike's salary? take iinto consideration employment taxes as well as federal income taxes. Note, that Elaine's salary would be well below the Social Security cap, so that she and the corporation each would incure the full amount of payroll taxes with the corporate portion being deductible. Both Elaine's and the corporation's portion is 7.65%

Answer 1

Gross	$ 800,000.00
Net	$ 500,000.00
	$ 300,000.00
Tax Rate	37.5

a	If Mike increases his salary by 50,000, Barton corporate will get an additional deduction of 50000 from its taxable income of 800,000.
	Barton corporation will also have to pay Pay tax = 1.45%*50,000 = 725.
	This pay tax is also allowed as dedcution from taxable income.
		3825
	So net additional deduction available to Barton = 20185	20185
	(50000*37.5% - 1.45%*50000) + 37.5%*1.45%*50000	-12535
	= (18750 -725) + 272	5762
	= 18297
	So New after tax Income of Barton corp will be
	= $300,000- (50,000 - 18297)
	= $268,297
	Mike will pay additional pal tax = 1.45%*50000 = 725
	Net reduction in overall tax liablity will be
	(50000*37.5% - 1.45%*50000) = 18,025
	So Mike will Receive after tax Income of $50,000 - 18025 = $31,975
	So Mike should increase his salary by $50000 to reduce overall tax liability of Barton corp.
b	If Elaine is employed then tax payable by Elaine = 50000*7.65% = 3825
	Payroll Tax payable by Barton corporation = 7.65%*50000 = 3825
	So Tax saving for Barton corporation
	= 37.5%*(50000+ 3825) = $20,185
	Total tax saving for Barton Corp will be $20185 - (3825+3825) = $12,535. This is less than $18,297 which was available if $50,000 additional is paid to Mike.
	So It is better to pay extra $50000 as salary to Mike as it would result in additional Tax benefit of 18297 - 12535 = $5762