Learning materials

1. Setting Up the Business

3. Forms of business organizations are:
Sole proprietorship:
Advantages: Easy to organize and simple to control;
flexible to manage; subject to minimal government
control; owner taxed as an individual at a lower rate
than corporate income tax.
Disadvantages: risk of unlimited liability; limited
access to capital and terminates upon death or
disability of the owner.
Ownership Structure
Ownership Structure

4. Partnership: Advantages: Share of business
costs and management; no tax liability ie.,
profits/losses included in partner’s income tax
return. Disadvantages: Personal liability and
partner’s action can bind the partnership.
Corporation: Advantages: limited liability;
free transferability of shares, perpetual
existence; ability to raise funds. Disadvantages:
double taxation.

5.  A limited partnership is a special form of partnership
which consists of at least one general (investor and
manager) partner and one or more limited (investor)
partners. The general partner is given the right to
manage the partnership and personally liable for the
debts and obligations of the limited partnership.
 S Corporations offer the benefits of limited liability,
but still permits the owner to pay taxes as an
individual, thereby, avoiding double taxation.

6. 1. Domestic entity: The Corporation must be a domestic entity, that is, it must be incorporated
in the United States.
2. No membership in an affiliated group: The Corporation cannot be a member of an affiliated
group (not part of another organization).
3. Number of shareholders: The Corporation can have no more than seventy-five shareholders.
4. Shareholders: Shareholders must be individuals or estates. Corporations and partnerships
cannot be shareholders. Shareholders must also be citizens or residents of the United States.
5. Classes of stock: The Corporation cannot have more than one class of stock.
6. Corporate income: No more than 20 percent of the corporation’s income can be from
passive investment income (dividends, interest, royalties, rents, annuities, etc.).

7. Formation Duration Management Owner Liability Transferability of Owners’
Interest
Federal Income Taxation
Sole Proprietorship One person owns business. No Corporation or
LLC formed.
Terminates on death or
withdrawal of owner
By sole proprietor Unlimited None Only sole proprietor taxed
Partnership By agreement of owners or by default when two
or more owners conduct business together
without creating another business form
Usually unaffected by
death or withdrawal of
partner
By partners Unlimited Limited Only partners taxed
Limited Liability
Partnership
By agreement of owners; must comply with
limited liability partnership statute
Usually unaffected by
death or withdrawal of
partner
By partners Limited to capital contribution, except
for owner’s individual torts
Limited Usually only partners taxed; may elect to
be taxed like a corporation
Limited Partnership By agreement of owners; must comply with
limited partnership statute
Unaffected by death or
withdrawal of partner
By general partners Unlimited for general partners; limited
to capital contribution for limited
partners
Limited, unless agreed
otherwise
Usually only partners taxed; may elect to
be taxed like a corporation
Limited Liability Limited
Partnership
By agreement of owners; must comply with
limited liability limited partnership statute
Unaffected by death or
withdrawal of partner
By general partners Limited to capital contribution, except
for owner’s individual torts
Limited, unless agreed
otherwise
Usually only partners taxed; may elect to
be taxed like a corporation
Corporation By agreement of owners; must comply with
corporation statute
Unaffected by death or
withdrawal of shareholder
By board of directors Limited to capital contribution, except
for owner’s individual torts
Freely transferable, although
shareholders may agree
otherwise
Corporation taxed; shareholders taxed on
dividends (double tax)
S Corporation By agreement of owners; must comply with
corporation statute; must elect S Corporation
status under Internal Revenue Code
Unaffected by death or
withdrawal of shareholder
By board of directors Limited to capital contribution, except
for owner’s individual torts
Freely transferable, although
shareholders usually agree
otherwise
Only shareholders taxed
Limited Liability Company By agreement of owners; must comply with
limited liability company statute
Usually unaffected by
death or withdrawal of
member
By members, unless choose
to be manager-managed
Limited to capital contribution, except
for owner’s individual torts
Limited, unless agreed
otherwise
Usually only members taxed; may elect
to be taxed like a corporation

8. Corporations are required to register their
trade name with the state
 Sole proprietorships and partnerships are
required to register with appropriate
government agency if they operate under
a fictitious name
Business or Trade Name
Business or Trade Name

9. An import/export business person can:
Open an account with an international bank
Operate from a home during the early phase of the
business; all direct expenses related to the business
are tax deductible
Use of professional services: source of guidance on
liability, taxes, expansion, and related matters
Check with the city or county to determine if permits
or business licenses are required
Bank Accounts, Permits, and Licenses
Bank Accounts, Permits, and Licenses

10. Level at which export decisions should be made
Need for a separate export department
Coordination and control of various activities
Organizational structure of the export-import
department
Organization of an export department of a
global company: Functional, product, market
and geographical basis.
Organizational Issues
Organizational Issues

11. Organizational issues involve three related
areas:
 Subdivision of line operations based on
certain fundamental competencies
 Centralization or decentralization of
export tasks and functions
 Coordination and control
Organizing for Export:
Organizing for Export:
Industry Approach
Industry Approach

12. General principles:
 Worldwide income of citizens, residents,
or business entities
 Definition of residency (183 days out of
a 3-year period or election)
Taxation of Export-Import
Taxation of Export-Import
Transactions
Transactions

13.  For U.S. tax purposes, an individual is
considered a U.S. resident if the person
a) has been issued a resident alien card (green
card),
b)has been physically present in the United
States for 183 days or more in the calendar
year or
c) meets the cumulative presence test

14. Example of cumulative presence test: If Jim (a UK citizen) was in California for sixty-six days in
2010, thirty-three days in 2011 and 162 days in 2012, he would be considered a U.S. resident for
2012 (162 + 33/3 + 66/6 = 184 days). Jim may, however, rebut this presumption by showing that he
has a closer connection to the UK than the U.S, or that his regular place of business is in the UK.
A company incorporated in the United States is subject to tax on its worldwide
income, as in the case of U.S. citizens and residents. A partnership is not treated as a
separate legal entity, and, hence, it does not pay taxes. Such income is taxed in the hands
of the individual partners, whether natural or legal entities.

15.  Foreign persons’ export profits are exempt from U.S.
tax unless such profits are attributable to a permanent
establishment maintained in the U.S. Similarly, U.S
exports will not be subject to tax in the importing
country unless the firm has a fixed place of trade or
business in the importing country or its agents in the
latter country have authority to conclude contracts on
behalf of the U.S. exporter.
 Deductions and allowances: organizational costs,
general and administrative expenses, personal and
business expenses, entertainment, travel, and other
related business expenses.

16.  Transfer pricing is intended to ensure that taxpayers
report and pay tax on their actual share of income
arising from controlled transactions. There are
several methods used to estimate an arm’s length
charge for transfers of tangible property: the
comparable uncontrolled price method, the resale
price method, the cost plus method, the comparable
profits method and the profit split method.

17. U.S. Parent Co. (Steel Co.)
in Detroit, Michigan
U.S. Subsidiary
in Madrid, Spain
Option A Production Cost = 1000 Cost of sales = 1000
Selling expense = 200
Sale to subsidiary = 1000 Sales revenue = 2200
Net Profit = $0 Net Profit = $1000
Option B Production cost = 1000 Cost of sales = 2000
Selling expense = 200
Sales to subsidiary = 2000 Sales revenue = 2200
Net Profit = $1000 Net Profit = $0

18.  Transfer Pricing Methods
A number of factors are considered in the
determination of comparable prices btw parties:
contractual terms, such as provisions pertaining
to volume of sales, warranty, duration or
extension of credit, functions performed, risks
assumed (currency fluctuation, credit collection,
product liability).
Other factors include economic market conditions,
nature of property or services transformed.

19.  In the case of sale of tangible goods btw related
parties, the arm’s length charge is determined by
using the following methods:
- Comparable uncontrolled price method: uses prices on
the sale of similar goods to unrelated parties
- Resale price method: uses resale price to unrelated
parties using gross profit margin
- Cost-plus method: used in situations in which products
are manufactured and sold to related parties
- Comparable-profits method: uses profit-level
indicators such as rate of return on operating assets
of uncontrolled parties to adjust profit levels of each
group
- Profit split method: allocates profit btw related parties
on the basis of the relative value of the contribution
to the profit of each party