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C:11-64 Refer to the facts in Tax Form/Return Preparation Problem C:9-58. Now assume the company is an S corporation rather than a partnership. Additional facts are as follows:

Drs. Bailey and Firth formed the corporation on January 1, 2013, and the corporation immediately elected S corporation status effective at the beginning of 2013.

Upon formation of the corporation, Dr. Bailey received common stock worth $1.2 million, and Dr. Firth received common stock worth $2.8 million.

The balance sheet information is the same as in Table C:9-3 except the equity section is as follows:

	January 1, 2014	December 31, 2014
Common stock	$4,000,000	$4,000,000
Retained earnings	171,360	91,020

The $180,000 paid to Dr. Bailey is salary constituting W-2 wages (instead of a guaranteed payment). Ignore employment taxes (Social Security, etc.) on Dr. Baileys salary.

Qualified production activities income (QPAI) still equals $2.24 million, but employers W-2 wages allocable to U.S. production activities equal $1.16 million (because of Dr. Baileys salary). The company, being an eligible small pass-through S corporation, uses the small business simplification overall method for reporting these activities (see discussion for Line 12d of Schedule K and Line 12 of Schedule K-1 in the Form 1120S instructions).

Use book numbers for Schedule L and Schedule M-1 in Form 1120S.

C:9-58 Healthwise Medical Supplies Company is located at 2400 Second Street, City, ST 12345. The company is a general partnership that uses the calendar year and accrual basis for both book and tax purposes. It engages in the development and sale of specialized surgical tools to hospitals. The employer identification number (EIN) is XX-2016014. The company formed and began business on January 1, 2013. It has no foreign partners or other foreign dealings. The company is neither a tax shelter nor a publicly traded partnership. The company has made no distributions other than cash, and no changes in ownership have occurred during the current year. Dr. Bailey is the Tax Matters Partner. The partnership makes no special elections. Table C:9-3 contains book balance sheet information at the beginning and end of the current year, and Table C:9-4 presents a book income statement for the current year. Other information follows:

Information on Partnership Formation:

Two individuals formed the partnership on January 1, 2013: Dr. Leisa H. Bailey (1200 First Pike, City, ST 12345) and Dr. Thomas J. Firth (3600 Third Blvd., City, ST 54321). For a 30% interest, Dr. Bailey contributed $1.2 million cash. She is an active general partner who manages the company. For a 70% interest, Dr. Firth contributed $2.32 million cash and 1,000 shares of Fastgrowth, Inc. stock having, at the time of contribution, a $480,000 fair market value (FMV) and a $96,000 adjusted basis. Dr. Firth is an active general partner who designs and develops new products. For book purposes, the company recorded the contribution of stock at fair market value.

Inventory and Cost of Goods Sold (Form 1125-A):

The company uses the periodic inventory method and prices its inventory using the lower of FIFO cost or market. Only beginning inventory, ending inventory, and purchases should be reflected in Schedule A. No other costs or expenses are allocated to cost of goods sold. Note: the company is exempt from the uniform capitalization (UNICAP) rules because average gross income for the previous year was less than $10 million [Sec. 263A(b)(2)(B)].

Line 9 (a)	Check (ii)
(b)(d)	Not applicable
(e) & (f)	No

Capital Gains and Losses (Schedule D):

The company sold all 1,000 shares of the Fastgrowth, Inc. common stock on July 2, 2014, for $1.44 million. Dr. Firth acquired the stock on January 2, 2011, for $96,000 and contributed the stock to the company on January 1, 2013, when its FMV was $480,000.

TABLE C:9-3 Healthwise Medical Supplies CompanyBook Balance Sheet Information

	Jan 1, 2014				Dec 31, 2014
Account	Debit	Credit		Debit	Credit
Cash	978,900			890,850
Accounts Rec.	756,000			840,000
Inventory	1,400,000			1,680,000
Investment in municipal bonds	30,000			30,000
Investment in corporate stock	480,000			0
Equipment	1,600,000			2,100,000
Accumulated Depreciation-Equipment		228,640			1,120,480
Accounts payable		140,000			182,000
Notes Payable (Short-term)		700,000			140,000
Accrued payroll Expenses		4,900			7,350
Capital account balances
Dr Leisa H. Bailey (30%)		1,251,408			1,227,306
Dr.Thomas J. Firth (70%)		2,919,952			2,863,714
Totals	5,244,900	5,244,900		5,540,850	5,540,850

TABLE C:9-4 Healthwise Medical Supplies CompanyBook Income Statement 2013

Sales		$7,000,000
Returns and allowances		(350,000)
Net sales		$6,650,000
Beginning inventory	$1,400,000
Purchases	2,800,000
Ending inventory	(1,680,000)
Cost of goods sold		(2,520,000)
Gross profit		$4,130,000
Expenses:
Depreciation (including Sec. 179)	$ 891,840
Repairs	45,500
General insurance	49,000
Guaranteed payment (to Dr. Bailey)	180,000
Other salaries	980,000
Travel	28,000
Utilities	84,000
Rent expense	210,000
Advertising expense	42,000
Professional fees	70,000
Employment taxes	98,000
Business interest expense	33,600
Investment expenses	4,800
Investment interest expense	4,200
Meals and entertainment	21,000
Charitable contributions (cash)	56,000
Total expenses		(2,797,940)
Other income:
Interest on municipal bonds		1,200
Dividend income		26,400
Gain on stock sale:
Selling price	$1,440,000
Book value	(480,000)
Book gain		960,000
Net income per books

Fixed Assets and Depreciation (Form 4562):

The company acquired the equipment on January 2, 2013, and placed it in service on that date. The equipment, which originally cost $1.6 million, is MACRS seven-year property. The company did not elect Sec. 179 expensing in the acquisition year and elected out of bonus depreciation. The company claimed the following depreciation on this property:

Year	Book and Regular Tax Depreciation	AMT Depreciation
2013	$228,640	$171,360
2014	391,840	306,080

On March 1, 2014, the company acquired and placed in service additional equipment costing $500,000. The company made the Sec. 179 expensing election for the entire cost of this new equipment. No depreciation or expensing is reported on Schedule A.

Other Information

The company paid Dr. Bailey a $180,000 guaranteed payment for her management services.

The company made a $56,000 cash contribution to Fort Sanders Hospital System on December 1 of the current year.

During the current year, the company made a $720,000 cash distribution to Dr. Bailey and a $1.68 million cash distribution to Dr. Firth.

The municipal bonds, acquired in 2013, are general revenue bonds, not private-activity bonds. Assume that no expenses of the company are allocable to the tax-exempt interest generated from the municipal bonds.

Assume qualified production activities income (QPAI) equals $2.24 million. Employers W-2 wages allocable to U.S. production activities equal $980,000. The company, being an eligible small pass-through partnership, uses the small business simplification overall method for reporting these activities (see discussion for Line 13d of Schedule K and Line 13 of Schedule K-1 in the Form 1065 instructions).

Use book numbers for Schedule L, Schedule M-2, and Line 1 of Schedule M-1. Also use book numbers for Item L of Schedule K-1, and check the box for Sec. 704(b) book.

The partners share liabilities, which are recourse, in the same proportion as their ownership percentages.

Required: Prepare the 2014 S corporation tax return (Form 1120S), including the following additional schedules and forms: Schedule D, Form 4562, and Schedule K-1.

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