Question

Both S Corps and partnerships have rules on permissible tax years, and cannot just use whatever tax year they like. What are the rules for each? Compare and contrast them, since they are not exactly the same. What is the government worried about? In other words, what tax-saving scheme is the government worried might occur if that these requirements are designed to prevent?    Do you think there is really so much to worry about?

Answer 1

· YES, its true that both S Corps and partnerships have rules on permissible tax years, and cannot just use whatever tax year they like. These rules are as under: Partnership and S corporation taxed at corporate level while means both pass all liability to its shareholders. i.e. owners pay taxes for S corp. however S corp. has option to characterize some of its profits as salary and dividend with certain limitation.

As per IRS rules for Partnership Tax year is:

• tax year of those partners having majority interest (more than 50%) in profits and capital
• if there is no majority interest tax year, then tax year of all its principal partners. A principal partner is one who has a 5% or more interest in the profits or capital of the partnership.
• If there is no majority interest tax year and the principal partners do not have the same tax year, then tax year that results in the least aggregate deferral of income to the partners.

As per IRS rules for S corp. Tax year are:

A permitted tax year is any of the following.

• · Calendar year.
• · A tax year elected under section 444 of the Internal Revenue Code.
• · A 52-53-week tax year ending with reference to the calendar year
• · Any other tax year for which the corporation establishes a business purpose.

Similarities between them:

• · S-corps and partnership have similarities in how they are structured as both they offer separate legal entities created through state filling. That means owners are not personally liable for liabilities and debt of the entity.
• Both have same corporate obligation and formalities like issuing stock, annual fees, filling annual report, holding meeting etc…

Contras are…

1. S corporation are separate legal entity with limited liability while partnership is not; stakeholders have a legal claim against the corporation can only look to the corporation's assets for payment or compensation. While in partnership partners are personally liable to stakeholders.
2. Corporate assume obligation and formalities like issuing stock, annual fees, filling annual report, holding meeting etc… while A partnership is not required to hold meetings of the partners or managers, maintain records of resolutions approved by the partners or managers, or issue certificates memorializing partnership interests
3. A corporation continues until dissolved by law while a partnership has a specified duration or may dissolve due to the death of a partner    
4. In Corporation Boards manage and set polices through board meeting and resolution while partnership partners mutually decides management policy unanimously.

Why Government Worried? Its that worthy?

          The reason for these Permitted Tax/accounting period rules is to prevent partners from deferring partnership income by choosing a different tax year for the partnership. So that may be the logical reason for the government since most people attempt to avoid taxes which really worthy to prevent tax avoid/ deferment/ escapement practice.