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Look at a logic check involving the organizational expenditures deduction. Illini, Inc.
I think, an accrual cruel basis corporation,
was formed and began business on May 1st.
It incurred the following expenses during the year: legal fees
for drafting articles of incorporation and bylaws of $22,000.
Accounting fees for financial reporting and tax consultations, $15,000.
Expenses for organizational meetings with temporary directors of $10,000.
Fees paid to the state of incorporation of $750.
And finally, expenses for printing stock certificates of $4,000. And we have two parts.
In part A, we want to compute
the organizational expenditures deduction under Section 248 for the current year.
So let's start with this one first and then we'll worry about Part B.
Okay, so where do we start?
Well, let's begin with looking at which expenditures that were incurred by
the corporation are actually deductible and then we'll figure out how to deduct them.
So if we look at the expenditures,
let's run through them and think about what we
learned from the concepts not too long ago.
So we have legal fees for drafting the articles of incorporation.
Well, that is something that is directly tied to
organizing the corporation so that will be deductible.
Similarly, we have accounting fees for finance reporting and tax consultations,
those are also deductible,
as well as expenses for organizational meetings with
temporary directors and the fees paid to the state of incorporation.
So in other words, the only thing that stands out as odd here is this last one,
which is expenses for printing stock certificates.
And so if you recall,
any expenditures that are related to issuing or selling
shares of stock are nondeductible as organizational expenditures.
Therefore, this amount will not be deductible.
So we'll just write no here so that we can keep that straight.
Okay. So now let's go and think about exactly what expenditures we do have that are
deductible and then we'll go through the process of calculating the actual deduction.
Okay. So let's begin with our deductible expenses.
We have legal fees of $22,000.
The accounting fees, we'll just abbreviate, $15,000.
The meetings with organizational directors and so forth of $10,000,
and then the fees paid for incorporation of $750 for a total of $47,750.
So that's the amount that we are going to try to deduct.
But now we have to apply the process of doing this under Section 248.
So if you recall, the corporation candidate immediately up to
$5,000 of such expenditures provided that they didn't spend more than $50,000.
If they did spend more than $50,000,
then that's when we have some phase outs to deal with.
But in this case, we can see we've only spent $47,750.
We don't have to worry about this phase out limitation.
So let's keep going through the process here.
So we have total expenses of $47,750 and
we know that we are immediately allowed to deduct $5,000.
So these are our immediate expenses that we can deduct.
So that would leave us with $42,750 remaining.
And we know that when we have anything that's over
than that and we're allowed to amortize what's
left anything over the $5,000 across 180 months,
which is a predefined period set by the Internal Revenue Code.
So we can take our $42,750 of remaining expenses and we'll divide by 180 months,
the period that is indicated in the code.
And so that gives us an amortization amount of $237.50 per month.
So how many months can we now deduct?
Well, business began on May 1st so we can
deduct from May 1st all the way through the end of
the year of December 31st or eight months worth.
So we have eight months,
which we'll just write a little note that goes from May all the way through December,
that's our eight months.
So we have amortization expense of $1,900 in total.
So our total amount of deduction for this entire organizational expenditures is
the immediate deduction that we originally calculated of $5,000,
the maximum, and the amount of amortization that we
just calculated a moment ago of $1,900.
So our total organizational expenditures deduction for the entire year is $6,900.
So now let's move to part B.
In part B, we have to compute the organizational expenditures deduction
under Section 248 for the current year if legal fees are now $27,250.
So where do we begin?
What we'll do, just like we did before,
so let's use the same screen but we'll just draw a line to separate,
and let's start by listing everything that is deductible.
So now our legal fees have moved up to $27,250.
We still have accounting fees of $15,000.
We have the meetings, which didn't change,
of $10,000 and we have the incorporation fees of $750.
So now our total expenses that are eligible for deduction are $53,000.
Well, this obviously is going to be an issue because we know we can only immediately
expense up to $5,000 provided that we didn't go over $50,000.
And in this case, we have gone over $50,000.
In other words, we've exceeded the limitation by $3,000.
So the amount that we can immediately deduct, that $5,000 amount,
phases out dollar for dollar for every dollar that we went over $50,000 or $3,000.
So our phase out limitation is set at $50,000,
that's the threshold we're concerned with.
We have $53,000 of expenses.
So our overage here is $3,000.
So what this means is the amount that we can immediately deduct, the $5,000,
is phased out by the amount that we went over,
$50,000, in other words, $3,000.
So our total amount available for an immediate deduction is now only $2,000.
Okay, so we have $53,000 of expenses.
We just computed that we can immediately deduct only $2,000 now after applying the limit,
which means we have an overage of $51,000 that
we can now amortize over 180 months just like before.
So $51,000 divided by 180 months,
which is just the period given in the code,
and when you get amortization of $283.33 per month.
So let's just continue this over here, $283.33 per month.
How many months can we amortize?
Just like before, eight months.
So that's going to be from May through December when is the business began.
And with a little bit of rounding,
we get $2,267 dollars of amortization expense, just to abbreviate.
So our total amount of organizational expenditures deduction for this problem is
the immediate amount of $2,000 and
the amortization of $2,267
or for a total organizational expenditures deduction of $4,267 overall.
So hopefully, this helps clarify the organizational expenditures deduction.
Michael P Donohoe, PhD, CPAAssociate Professor of Accountancy and PwC Faculty Fellow
