Loretta plans to start a small business, which will operate as a corporation. In year 0, she expects the corporation to generate a loss of $100,000. Subsequently, she expects the corporation to be profitable, and projects profit of $150,000 in year 1, and $250,000 in year 2. Using Appendix A and a 10% discount rate, calculate the present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election.
A) $52,910 total tax cost
B) $88,250 total tax cost
C) $94,350 total tax cost
D) $118,800 total tax cost

Question

Quizplus · Accepted Answer

The present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election is $52,910. This is calculated by taking the present value of the tax savings in year 1 and year 2, and subtracting the present value of the tax cost in year 0. The tax savings in year 1 is $15,000, and the tax savings in year 2 is $25,000. The tax cost in year 0 is $10,000. The present value of the tax savings in year 1 is $13,636, and the present value of the tax savings in year 2 is $22,727. The present value of the tax cost in year 0 is $9,547. Therefore, the present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election is $52,910.

Loretta Plans to Start a Small Business, Which Will Operate