Lesson 4:  In Class Problem-Tax Advantages of Debt :

Reggie transfers $500,000 in cash to newly formed J Corporation for 100% of J’s stock.  In the first year of operations, J’s taxable income before any payments to Reggie is $120,000.  The corporation pays Reggie a salary of $20,000.  

Required:
1.	Compute the taxable income and tax paid by Reggie and J Corporation in the following two fact situations.  Use a 30% tax rate for both taxpayers.  

2.	Compute the amount of cash remaining for each taxpayer after paying their taxes.  Assume that the initial $500,000 invested by Reggie has been used to purchase machinery and none of it remains in the bank.

I.   J distributes a $70,000 dividend to Reggie in addition to the salary mentioned above.

II.  Assume that when J was formed, Reggie transferred the $500,000 to the corporation in exchange for $250,000 of J stock and $250,000 in notes payable in 5 annual installments of $50,000 plus 6% annual interest on the unpaid balance.  During the current year, J pays Reggie $50,000 in repayment on the note, plus $15,000 interest in addition to the salary mentioned above.

III. Same as scenario 1, except that J Corporation has elected to be treated as an S corporation?  Also, compute R’s basis in his investment in J at the end of the year.

IV. Same as scenario 2, except that J is an S corporation?