Question

Sandy Corp. projects that it will have taxable income of $116,000 for the year before paying any fringe benefits. Assume Karen, Sandy’s sole shareholder, has a marginal tax rate of 35 percent on ordinary income and 15 percent on dividend income. Assume Sandy’s tax rate is 35 percent.

a. What is the amount of the overall tax (corporate level + shareholder level) on Sandy’s $116,000 of pre-benefit income if Sandy Corp. does not pay out any fringe benefits and distributes all of its after-tax earnings to Karen (ignore the net investment income tax)?

b. What is the amount of the overall tax on Sandy’s $116,000 of pre-benefit income if Sandy Corp. pays Karen’s adoption expenses of $10,000 and the payment is considered to be a nontaxable fringe benefit (ignore the net investment income tax)? Sandy Corp. distributes all of its after-tax earnings to Karen.

c. What is the amount of the overall tax on Sandy’s $116,000 of pre-benefit income if Sandy Corp. pays Karen’s adoption expenses of $10,000 and the payment is considered to be a taxable fringe benefit (ignore the net investment income tax and the additional Medicare tax)? Sandy Corp. distributes all of its after-tax earnings to Karen.
      

Answer 1

Solution a:

Computation of Overall Tax - Without fringe benefits
Particulars	Amount
Taxable income before fringe benefits (A)	$116,000.00
Fringe benefits (B)	$0.00
Taxable Income ( C ) (A-B)	$116,000.00
Corporation Tax (D) (C * 35%)	$40,600.00
After tax entity earnings ( E ) (C-D)	$75,400.00
Karen's tax dividends (F) (E*15%)	$11,310.00
Overall Tax (G) (D + F)	$51,910.00

Solution b:

Computation of Overall Tax - With qualified fringe benefits
Particulars	Amount
Taxable income before fringe benefits (A)	$116,000.00
Fringe benefits (B)	$10,000.00
Taxable Income ( C ) (A-B)	$106,000.00
Corporation Tax (D) (C * 35%)	$37,100.00
After tax entity earnings ( E ) (C-D)	$68,900.00
Karen's tax dividends (F) (E*15%)	$10,335.00
Overall Tax (G) (D + F)	$47,435.00

Solution c:

Computation of Overall Tax - With Non qualified fringe benefits
Particulars	Amount
Taxable income before fringe benefits (A)	$116,000.00
Fringe benefits (B)	$10,000.00
Taxable Income ( C ) (A-B)	$106,000.00
Corporation Tax (D) (C * 35%)	$37,100.00
After tax entity earnings ( E ) (C-D)	$68,900.00
Karen's tax dividends (F) (E*15%)	$10,335.00
Karen's Tax on Fringe benefits (G) (B*35%)	$3,500.00
Overall Tax (H) (D + F + G)	$50,935.00