WILLIAM MITCHELL COLLEGE OF LAW

FINAL EXAMINATION--TAKE-HOME

BUSINESS ENTITY TAX

SPRING 1998

Professor DENISE ROY



Handout Date: Available as of Thursday, April 30, 1998, 8:30 a.m.



Due Date: Seven days after pick-up (including pick-up and drop-off days),

but no later than Wed., May 13, 1998, 9 p.m. (Fri., May 8, 1998, 9 p.m.,

for graduating seniors wanting grade recorded in time for graduation).





ADDITIONAL INSTRUCTIONS:



1. ONCE YOU HAVE PICKED UP THIS EXAM, YOU MAY DISCUSS THE EXAM WITH OTHER MEMBERS OF THE CLASS WHO ALSO HAVE AN EXAM CHECKED OUT AT THE TIME OF THE DISCUSSION. DURING THE TIME YOU HAVE THE EXAM CHECKED OUT (FROM TIME OF PICK-UP TO TIME OF DROP-OFF), DO NOT DISCUSS THE EXAM, THE ISSUES RAISED IN THE COURSE OR ANY OTHER ASPECT OF THE COURSE WITH ANY PERSON OTHER THAN MEMBERS OF THE CLASS WHO ALSO HAVE AN EXAM CHECKED OUT AND ME. DURING ANY TIME FROM APRIL 30, 1998, THROUGH MAY 13, 1998, THAT YOU DO NOT HAVE AN EXAM CHECKED OUT, DO NOT DISCUSS THE EXAM, THE ISSUES RAISED IN THE COURSE OR ANY OTHER ASPECT OF THE COURSE WITH ANY PERSON. YOU MUST WRITE YOUR OWN EXAM ANSWERS, INCLUDING DIAGRAMS.



2. You may use the textbook and Internal Revenue Code volume assigned for the course, your own notes and outlines and any course handouts. You may not consult any outside materials.



3. This examination must be typewritten or printed (not handwritten), except as otherwise indicated. Each section of the exam is subject to a length limitation specified on the exam. There is a total 10-page length limitation on the typewritten portion of the exam. Any required diagrams must be provided on separate sheets of paper that will not be counted for purposes of the applying the page limitation(s) and may be hand-drawn. IF YOU EXCEED THE PAGE LIMITATION(S), YOU WILL BE GRADED ONLY ON THE PAGES THAT FALL WITHIN THE LIMITATION (E.G., ON THE FIRST 3 PAGES OF SECTION I). Answers must be doubled spaced on 8-1/2 x 11 inch paper with non-proportional-type font (1) having no more than 12 characters per inch (CPI) (2) and normal top and bottom 1 inch margins and left and right 1 inch margins. Do not justify the right-hand margin of your text. Type only on one side of each sheet of paper. Do not use footnotes. PLACE YOUR TEST NUMBER ON EACH PAGE OF YOUR ANSWER AND NUMBER YOUR PAGES. FAILURE TO COMPLY WITH THESE INSTRUCTIONS MAY BE TAKEN INTO ACCOUNT IN YOUR GRADE.



4. You will be graded on the quality of your analysis rather than on the conclusions you reach. Do not discuss extraneous issues. Limit your analysis to federal income tax issues. Do not discuss other tax (e.g., payroll, estate and gift, state) issues that may be presented unless we discussed them in class.



5. You may assume that (1) corporations are Subchapter C corporations, and (2) taxpayers use the cash method of accounting, unless the question specifically states otherwise.



6. You need not provide numerical answers but may do so if you choose. In some cases you may not have sufficient information to provide numerical answers. If you do provide numerical answers, be sure to explain how you reached your conclusions.



Good luck on your exam. It has been a pleasure working with you this semester. Denise Roy



I (40%)



Write no more than 4 pages total (not including diagrams) on the questions in this section.



Pickering Corporation is the sole shareholder of Intellimed, Inc. Pickering Corp. and Intellimed do not file a consolidated return, and Pickering Corp. has held its Intellimed stock for more than two years. Pickering Corp. has a $150,000 basis in its Intellimed stock. Melvin is a prospective buyer and is willing to purchase all of the Intellimed stock, but he is unable to pay the $500,000 price demanded by Pickering Corp. even though he believes it to be fair. Intellimed has $100,000 cash on hand and an ample supply of earnings and profits. The parties agree on the following plan: Pickering Corporation will cause Intellimed, Inc. to distribute $100,000 cash to it. Promptly thereafter, Pickering Corp. will sell its Intellimed stock to Melvin for $400,000.



(a) Use a separate sheet of paper to diagram the transaction planned by the parties, including where the parties will end up after the transaction.



(b) Explain the tax consequences of this plan for Pickering Corp., Intellimed and Melvin. Assume that Melvin plans to operate Intellimed as a C corporation.



(c) How does your analysis in (b), above, change, if at all, if Pickering is an individual rather than a corporation? Could the transaction be restructured to improve the tax consequences to individual shareholder Pickering? Explain and provide a diagram of any restructured transaction, including where the parties will end up after the transaction. Assume that Pickering operates Intellimed as a C corporation.



(d) How does your analysis in (b) above, change, if at all, if Melvin plans to operate Intellimed as a Subchapter S corporation? How might the Subchapter S election rules influence the timing of the acquisition? Briefly explain what other issues the prospect of electing Subchapter S status for Intellimed raises for Melvin. Consider briefly how purchasing Intellimed's assets, instead of stock, would affect the analysis for Melvin.



































End of Section I. Go to next page.



II (40%)



Write no more than 6 pages total on the questions in this section.



Kristi, Fran and David plan to form a limited liability company under Minnesota law. Kristi and David will each contribute $80,000 cash in exchange for 1/3 membership interests. Fran will contribute real estate worth $200,000 subject to a recourse mortgage debt of $120,000 in exchange for a 1/3 membership interest. The LLC will assume liability for the debt. Recall that owners of a limited liability company (LLC) are shielded by state law from personal liability for the debts of the LLC just as shareholders are shielded from personal liability for corporate debts. (In other words, LLC members bear a risk of loss only with respect to their contributions to the LLC and any corporate obligations for which they contractually agree to assume liability.)



(a) Explain the tax consequences to Fran of the contribution of real estate subject to debt in exchange for a 1/3 LLC interest if Fran's basis in the real estate at the time of the exchange is $150,000.



(b) How does your analysis in (a), above, change, if at all, if Fran's basis in the real estate is $100,000?



(c) How does your analysis in (a) and (b), above, change, if at all, if the parties instead form a Subchapter S corporation, assuming they make a valid and timely election? Explain.



(d) If the parties desire to make a valid Subchapter S election effective from the first day of the corporation's first taxable year, when must the election be filed?



(e) Assume for purposes of this question (e) only that the parties desire to allocate 100 percent of depreciation deductions associated with the real estate to Fran. What steps must they take to ensure that such allocations will not be subject to reallocation by the IRS? Briefly describe any other issues regarding the substance of the allocation provisions in the partnership agreement that this special allocation might raise for the parties.







































End of Section II. Go to next page.

III (20%)

Answer the following questions in handwriting in the space provided below.



Below is a list of circumstances individual business owners may encounter over the life of a business entity. For each, indicate (with an "X" in the appropriate space) whether, focusing on the tax consequences associated with the particular circumstance, the parties' overall tax outcome would generally be most favorable if the business were operated as a Subchapter C corporation, Subchapter S corporation or partnership. If two options would be equally favorable, check both. If no option is more favorable than the others, check "no difference." Provide a one sentence explanation for your choice, including any caveats or limitations on any advantage(s) you identify. Your answer must fit on the lines provided.

Sub C Corp. Sub S Corp. P'ship No difference



NOL's _______ _______ _______ _______



____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________

contribution of

appreciated prop. _______ _______ _______ _______



____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________

owner is employee _______ _______ _______ _______



____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________

owner is lender _______ _______ _______ _______



____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________

complete liqui-

dation of business _______ _______ _______ _______



____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________

THE END

1.

0 Nonproportional fonts, such as Courier, have letters that are all the same size. Therefore, the number of characters per inch does not vary depending on the letters used.

2.

0 CPI is not the same as "point" size (e.g., 10-point font). The exam questions in Sections I and II (but NOT in Section III) appear in Courier font size 10, which meets the 12 CPI requirement. Use a ruler or compare with the exam questions to make sure you get the font size correct.