1-1. What is the most important difference between a corporation and all other organizational forms? A corporation is a legal entity separate from its owners.
1-2. What does the phrase limited liability mean in a corporate context?
Owners’ liability is limited to the amount they invested in the firm. Stockholders are not responsible for any encumbrances of the firm; in particular, they cannot be required to pay back any debts incurred by the firm.
1-3. Which organizational forms give their owners limited liability?
Corporations and limited liability companies give owners limited liability. Limited partnerships provide limited liability for the limited partners, but not for the general partners.
1-4. What are the main advantages and disadvantages of organizing a firm as a corporation?
Advantages: Limited liability, liquidity, infinite life
Disadvantages: Double taxation, separation of ownership and control
1-5. Explain the difference between an S corporation and a C corporation.
C corporations must pay corporate income taxes; S corporations do not pay corporate taxes, but must pass through the income to shareholders to whom it is taxable. S corporations are also limited to 75 shareholders and cannot have corporate or foreign stockholders.
1-6. You are a shareholder in a C corporation. The corporation earns $2 per share before taxes. Once it has paid taxes it will distribute the rest of its earnings to you as a dividend. The corporate tax rate is 40% and the personal tax rate on (both dividend and non-dividend) income is 30%. How much is left for you after all taxes are paid?
First, the corporation pays the taxes. After taxes, $2×(1− 0.4) = $1.20 is left to pay dividends. Once the dividend is paid, personal tax must be paid, which leaves $1.20× (1− 0.3) = $0.84 . So, after all the taxes are paid, you are left with 84¢.
1-7. Repeat Problem 6