Two Of The Most Commonly Cited Corporate Income Tax Issues

Are you running a corporation? Would you be interested in knowing more about the top corporate income tax issues – the double taxation and in-deductible interest! 

We’ve done some research and combined all the information needed on this topic for you in this article! 

What is corporate income tax? 

According to Investopedia, a corporate tax is defined as “a tax on the profits of a corporation. The taxes are paid on a company’s taxable income, which includes revenue minus cost of goods sold (COGS), general and administrative (G&A) expenses, selling and marketing, research and development, depreciation, and other operating costs.” 

In other words, the federal and state governments levy a corporate income tax (CIT) on business profits.

The two most common corporate income tax issues 

Issue 1 – Corporate income is double taxed 

Corporate income is subject to double taxation. 

For instance, company A has an income of $20 million. Let’s assume that the tax rate is 40% on all income. Company A has to pay income tax at the corporate level. Hence, Company A needs to pay $8 million ($20 million x 40%). In other words, the corporate income tax is $8 million. 

Company A pays the income tax to the government and leaves the rest of the twelve million dollars to the company’s shareholders. If the remaining profits are paid out as dividends, the $12 million will be taxed again at the individual shareholder level. For simplicity, we can assume that the tax rate to pay for their share is 40%. So, $3.2 million is the amount of income tax that shareholders pay at the individual level. 

Thus, the total tax paid on the $20 million income is $11.2 million. Some people may say this tax amount is quite substantial. Hence, the question is, how can Company A increase the amount of deductible taxes? 

Corporate A’s shareholders can avoid double taxation by having the corporate profits retained in the business for expansion. 

Issue 2 – Interest is deductible as a business expense for a corporation

Interest is a tax-deductible expense for all businesses, sole proprietorships, partnerships, and corporations. However, this tax deductibility has unique applications for corporations. 

Governments allow companies to deduct interest as a tax-deductible expense. Nevertheless, dividends paid by corporations are not deductible. Hence, if a corporation wants to raise new capital for expansions, it should borrow money and pay interest. Afterward, the corporation will get the interest deducted as a business expense. 

In other words, the tax codes encourage companies to raise capital by borrowing money rather than getting additional money from their shareholders. 

In the next follow-up articles, we’ll cover how to avoid the two tax income issues mentioned above. Subscribe to our newsletter to receive the latest update! 

Read more on tax and tax deduction articles on the Shoeboxed blog

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