Question

The owner of WebCity is trying to decide whether to remain a proprietorship or to incorporate. Suppose that the corporate tax rate on profits is

40 percent and the personal income tax rate is 50 percent. For simplicity, assume that all corporate profits (after corporate taxes are paid) are distributed as dividends in the year they are earned and that such dividends are subject to tax at the personal income tax rate.

If the owner of WebCity expects to earn $130,000 in before-tax profits this year, regardless of whether the firm is a proprietorship or a corporation, which method of organization should be chosen?

?

Proprietorship

Either one

Corporation

.

What is the dollar value of the after-tax advantage of this form of organization?

$.

Suppose that tax policy is changed to completely exempt from personal taxation the first

$28,000 per year in dividends (or profits), which method of organization should be chosen?

?

Either one

Corporation

Proprietorship

.

Suppose that the corporate form of organization has cost advantages that will raise before-tax profits by

$40,000.

Should the owner of WebCity incorporate?

?

No

Yes

.

By how much would after-tax profits change due to incorporation?

$ .

How can you explain the fact that even though corporate profits are subject to double taxation, most business in the United States is conducted by corporations rather than by proprietorships or partnerships?

A. A proprietorship structure provides limited liability for owners.

B. A corporate structure provides limited liability for owners.

C. A corporate structure guarantees higher profits.

D. None of the above.

Answer 1