S Corporation

A corporation that is qualified to and elects to have its income taxed to its stockholders instead of to the corporation. Taxation is similar to a partnership because it generally avoids the double taxation which can occur when dividends are paid by a regular corporation (that is, a C Corporation).

Some tax favorable employee benefits are restricted where an employee owns more than 2% of the stock. Such an employee-stockholder's benefit may not be deductible by a corporation as a business expense.

>>> Tip: Income from S corporations can be shifted to children and other family members without also shifting voting rights by transferring non-voting stock to them which is otherwise the same as voting stock.

See Appropriate Ownership of Property and Business Interests.

Sale and Purchase of a Business

The sale of a business can be accomplished by the sale of the assets and property of the business (see Capital Gains and Sale of Depreciated Property) or by the sale of the legal entity (for example, by the sale of the stock of the corporation) which owns the assets. The sale of the assets of a going business entails negotiating the allocation of the sale price to certain assets of the business for income tax purposes. A typical seller wants to allocate much if not all of the sale price to depreciable assets in order to be eligible for the tax benefits of capital gains rates. A typical purchaser wants to allocate and deduct as compensation much of the sale price to consulting services to be rendered by the seller for a period of time, at least during the transaction stage. However, the seller then has to pay ordinary income tax rates on such compensation and self-employment social security taxes. A typical purchaser also wants to allocate much of the sale price to inventory in order to offset this cost against the cost of goods sold and thereby reduce gross income. However, the seller has to pay ordinary income tax rates on the inventory.

Other conflicts that must be negotiated include a seller's desire to allocate a large portion of the sale price to goodwill and going concern value and a purchaser's desire to have a covenant by the seller not to complete with the purchaser. The conflict over a covenant not to complete can arise whether the sale is structured as a sale of assets or a sale of the business entity (for example, the sale of stock).

The sale of a corporation also entails negotiations. For example, the sale may be structured as one of seven corporate reorganizations under the federal income tax laws which will generally be tax-free with no gain recognized. However, if cash or property (other than the stock of another corporation, for example) is also given (that is, "boot") or given instead, a gain must be recognized on the value of the cash or property. To the extent that the sale price is heavily allocated to the sale of the stock, there is no immediate or short term tax benefit to the purchaser but there is a long term tax benefit when the purchaser later sells the shares because a high basis for the shares will have been established, thus minimizing any subsequent gain.

>>> Tip: The sale of S Corporation stock, partnership or LLC interests, and interests in other legal entities all require the negotiation of special considerations. For example, the sale of a partnership interest is usually treated as the sale of a capital asset, and the gain (or loss) is based on the selling partner's basis in the assets owned by the partnership. The sale of a membership in an LLC is treated similarly.

Sale of Depreciated Property

Some of the tax benefit of depreciation is recaptured when the property is sold, but economic benefits remain because of the time value of money and the possible benefit of capital gains, where the rate is less than the taxpayer's tax rate on other income. However, equipment, vehicles, and certain other depreciable personal property, certain depreciable real estate, leaseholds, and other intangible real property are not eligible for all of the benefits of capital gain rates or treatment.

>>> Tip: When selling depreciable real estate and leaseholds, the seller should project the affect of recaptured and excess accelerated depreciation on the gain because of the reduced basis. This will result in a taxable gain that is greater than you may have thought and this may affect your asking price. See Sale of Residence.

>>> Tip: When selling depreciable personal property, the seller should project the amount of ordinary income that will be taxed because some personal property (for example, equipment, vehicles, and so forth) will not be eligible for the capital gain treatment and reduced capital gain rates.

See Real Estate Investments references.

Sale of Residence

Married individuals filing tax returns jointly may exclude from income for federal income tax purposes $500,000 of gain realized on the sale (or exchange) of their principal residence under certain circumstances every two years. Single individuals may exclude $250,000.

See Real Estate Investments references.

Self-Canceling Installment Note (SCIN)

An installment sale debt obligation or promissory note that is extinguished upon the death of the seller-creditor. In a regular installment sale, the seller's estate, heirs, and so forth are entitled to unpaid amounts after the seller dies and the value of the unpaid amounts are included in the seller's gross estate. However, if the installments are in the form of a SCIN, the note has no value for estate tax purposes, provided that the term of the note is less than the life expectancy of the seller at the time of the sale.

SEP (Simplified Employee Pension or SEP-IRAs or Super IRAs)

An IRA provided by an employer that is qualified to receive an expanded rate of contributions from an employee's employer or from a sole proprietor who is self-employed. Most employers must be included. Annual contributions are not required (much the same as they are not required in a profit-sharing plan. Salary deferral like those in a 401(k)s can be provided. The maximum contribution is $30,000 or 15% of compensation not to exceed $160,000 (adjusted for inflation), whichever is less. The employee immediately owns the contribution in the employee's account. Accordingly, vesting is immediate and there are no forfeitures to be distributed to other participants as is the case when an employee terminates employment and has no vested benefits.

Separate Property

Typically includes in Louisiana either spouse's inherited property, property acquired by either spouse before marriage, and the income from separate property which has been reserved by either spouse.

Separate property is inherited as follows if a person dies without a valid will: (1) Children or grandchildren inherit in full ownership; (2) If there are no children or grandchildren, and so forth but siblings or the direct descendants of siblings, and at least one parent survives the decedent, then siblings or their direct descendants inherit naked ownership and parents have a joint and successive usufruct for life; (3) If there are no children or grandchildren, and so forth, no parents survive, siblings or their direct descendants inherit in full ownership; (4) If there are no children or grandchildren, and so forth and no siblings or their direct descendants survive, then the surviving parent or parents inherit in full ownership; (5) If there are no children or grandchildren, and so forth, no siblings or their direct descendants, and no parents survive, then the surviving spouse of the decedent inherits in full ownership.

>>> Tip: You should also keep in mind that if either of you has or acquires by inheritance or otherwise considerable assets, it is sometimes "tax wise" to convert such separate property to community property. See Stepped-Up Basis.

Servitude

A servitude is a charge on property. A personal servitude is a charge on property in favor of a person; a predial servitude is a charge on immovable property (called the servient estate) for the benefit of other immovable property (called the dominant estate).

>>> Tip: A predial servitude is similar to an easement in most states other than Louisiana.

>>> Tip: A predial servitude passes with the sale of the dominant estate for whose benefit it exists.

>>> Tip: Predial servitudes may be created by contract (for example, to give one property owner the right of passage over the property of another) or established by law for the benefit of the public or for the benefit of certain persons as a limitation on ownership of real estate (for example, an owner of a building cannot allow it to fall on a passerby).

See Real Estate Investments references.

SIMPLE (Savings Incentive Match Plan for Employees) or SIMPLE IRA Plans

A retirement plan that is easier to establish and administer than a qualified plan such as defined benefit pension plan, defined contribution profit sharing plan, a money-purchase defined compensation plan, a 401(k)s plan, and so forth.

Employer contributions are made to an IRA on behalf of employees. The employer makes either a non-elective contribution or a matching contribution. Non-Discrimination and top-heavy rules applicable to qualified plans do not apply. Eligible employees are those who employ 100 or fewer employees, each of whom receives at least $5,000 in compensation and the employer does not sponsor any other qualified employee retirement plan.

Each employee may opt to have reduced from compensation annually a maximum of $6,000 (indexed for inflation). The employer's matching contributions may be an elective contribution of from 1% to 3% of annual compensation or a non-election contribution of 2% of annual compensation.

Social Security (SS) Benefits and Taxation

Social Security Disability Insurance (DI) benefits are available to qualified applicants under 65 who are disabled and unable to engage in any substantial gainful work which exists in the national economy and the disability must result from a medically determinable physical or mental impairment which is expected to result in death or which has lasted or is expected to last for a continuous period of 12 months or more. Special tests apply to blind individuals age 55 or older.

The SS Old-Age and Survivor Insurance (OASI) pays monthly benefits after a worker retires or dies. Individuals covered by Social Security can retire at age 62 with reduced benefits or at age 65 with full benefits. However, the full benefit retirement age will be raised to age 67 in steps beginning in the year 2000. Benefits vary. For example, if the covered worker has maximum earnings and is currently age 60, the worker will receive projected maximum monthly SS retirement payments of $1,548 at age 65 and the worker's spouse will receive $774. If this 60-year-old worker retires at age 62, the worker will receive projected maximum monthly SS retirement payments of $1,212 and the worker's spouse will receive $580 at age 65. If the worker is currently age 25, the worker will receive $1,717 monthly at age 65 retirement, and the worker's spouse $858 monthly at age 65. At age 62 retirement, the worker will receive $1,201 monthly and the worker's spouse at age 62 will receive $643 monthly. Until age 65, an individual will lose all or some benefits if the individual earns over $10,080 in 2000, increasing in stages. When an individual reaches age 65, there is no earnings limit. Interest payments, stock dividends, annuities, investment income, and pension and retirement pay do not reduce benefits.

>>> Tip: Up to 85% of Social Security benefits may be subject to federal income taxation under a somewhat complicated two-tier approach.

>>> Tip: If you work past age 65 and do not begin to receive Social Security benefits, your monthly benefits will be increased by a percentage for every month that you are past age 65 but are not receiving benefits. These Delayed Retirement Credits (DRCs) are added to your monthly benefits until you reach age 70. The DRCs vary depending on your date of birth; for example, for those reaching age 65 in 2000, the DRC is 6% per year. The rate gradually increases until it reaches 8% per year for those reaching age 65 in 2008 or later.

>>> Tip: Delayed retirement can also increase your average earnings, resulting in higher monthly benefits.

>>> Tip: Taking benefits early permanently reduces your monthly benefits but allows you to collect benefits longer.

>>> Tip: How long it will take before total benefits based on an age 65 retirement exceed benefits or an age 62 retirement should be analyzed. For example, someone taking reduced early Social Security retirement benefits in 2000 at age 62 would take 14 years (that is, until age 76) for the total benefits to be less than the total benefits received based on an age 65 retirement. However, other considerations must be factored in such as inflation, cost-of-living increases to Social Security benefits, the life expectancy of the applicant (which may be less than age 76), the cash needs of the applicant, and the possibility that the reduced early benefits could be invested instead of spent.

Spendthrift Trust

Has a provision that the beneficiary's income or principal interest are protected and may not be seized by most creditors of the beneficiary and may not be transferred or encumbered by the beneficiary. The individual creating the trust (the settlor) cannot protect the settlor's own beneficial interest. Child support, alimony and certain other obligations such as court judgments for necessary services and supplies and damages may not be protected under Louisiana law. A creditor may seize only the beneficiary's interest in income or principal that is subject to voluntary alienation by the beneficiary. See Asset Protection.

Split Dollar Insurance Plans

Death benefits are split between the corporation and the insured key employee's beneficiary: the employer receives the cash value and the beneficiary receives the death benefits. The employer and employee split the payment of the premium. The part of the premium attributable to death benefits is taxable to the employee as ordinary income.

Sprinkling Trust

Income (or principal in some states other than Louisiana) is distributed among those in a group in the proportions or amounts determined in the discretion of the trustee. See Trust.

Step Transactions

Seemingly unrelated transactions are viewed by the IRS as related steps of an integrated transaction to defeat anticipated tax advantages. An example would be using the proceeds of a home equity loan to pay for a single premium annuity. While normally interest paid on a second mortgage can be deductible, the deduction may be denied because no deduction is allowed for interest on a loan to buy a single premium annuity. See Home Equity Loan.

Stepped-Up Basis

The amount used to compute the taxable gain on the sale of property for federal income tax purposes.

Property in the estate of a deceased person takes as its costs basis (whether or not the estate pays federal estate taxes) the fair market value of the property at date of death or six months after the date of death, and therefore the stepped-up basis means that any appreciation of property in the estate is not subject to federal income tax.

Section 1014 of the Internal Revenue Code provides that the income tax basis (cost basis) of property included in the estate of the decedent is equal to the fair market value of that property on the date of death of the decedent. This is usually referred to as the stepped-up basis. The benefit of Section 1014 is that even though property may be subject to estate tax, the built-in Gain (that is, the difference between the value at the date of death and the adjusted tax basis) will not be subject to an income tax.

>>> Tip: Section 1014(b)(6) provides that not only does the property of the decedent get this stepped-up basis but so does the surviving spouse's community share get a corresponding stepped-up basis.

For example, assume a husband owns property worth $100,000.00, which property has an adjusted basis of $10,000.00; therefore, there is a built-in Gain of $90,000.00 that will be subject to capital gains tax if the property is sold by the husband. Prior to selling the property, the husband dies. If the property is separate property, then the tax basis of the property will be stepped up to $100,000.00, eliminating the built-in gain. If the property is community property, not only will the husband's half get a stepped-up basis to $50,000.00 (one-half of $100,000.00) but the spouse's community half will also receive a stepped-up basis equal to $50,000.00. The benefit of converting separate property to community property occurs if the spouse that owns the separate property is the surviving spouse. If the property has been separate property, then there would be no stepped-up basis upon the death of the spouse not owning the separate property. However, if it is community property, there will be no estate tax cost (assuming a proper will is drafted), but the surviving spouse will now receive a stepped-up basis eliminating any capital gains tax being due in the event the husband sells the property.

>>> Tip: The primary drawbacks to converting property to community property include inheritance (that is, the heirs of the deceased may not inherit one-half of the community property), exposing each other's seizeable property to the creditors for each other, and divorce.

Succession

The legal proceeding necessary for the payment of debts, expenses, and taxes and for the transference of probate assets to successors by will or by intestate inheritance by operation of law (as opposed to a sale agreement or other form of purchase). See Will (Last Testament).

Survivorship Life Insurance (Last-to-Die Insurance or Second-to-Die Insurance)

Insures two lives and pays a death benefit after the death of both insureds. See First-to-Die Insurance. These are typically written on the lives of the husband and wife and the benefits are paid only after both have died. The proceeds are frequently used to pay estate taxes where a marital deduction has deferred taxes until the death of the second spouse.

>>> Tip: Paying estate taxes exclusively with such insurance proceeds after deferring all estate taxes by the full use of the marital deduction until the death of the second spouse has disadvantages. As one example, the property in the surviving spouse's estate may substantially appreciate or increase, thus increasing estate taxes.