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    Two cases: accrual basis for a PSC corp; alimony tax issues

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    Your client is a new partnership, Aspen Associates, which is an engineering consulting firm. Generally, Aspen bills clients for services at the end of each month. Client billing are about $50,000 each month. On average, it takes 45 days to collect the receivables Aspen's expenses are primarily for salary and rent. Salaries are paid on the last day of each month, and rent is paid on the first day of each month. The partnership has a line of credit with a bank, which requires monthly financial statements. These must be prepared using the accrual method. Aspen's managing partner Amanda Sims, has suggested that the firm should also use the accrual method for tax purposes and that reduce accounting fees by $600. Assume the partners are in the 35% (combined federal and state) marginal tax bracket. Write a letter to your client explaining why you believe it would be worthwhile for aspen to file its tax return on the cash basis even though its financial statements are prepared on the accrual basis. Aspen's address is 100 James Tower, Denver, CO 80208.

    Karen and Al are in the process of negotiating a divorce agreement. Al believes that Karen should pay him at least $30,000 per year, but he would like to get as much in the first two years in cash as the tax law will permit to be treated as alimony. He is willing to surrender his one-half interests in some stock in exchange for more cash. Karen and Al own stock worth $120,000 that originally cost $80,000. Al is aware that Karen is very concerned about the tax consequences of the divorce agreement. What would be the tax consequences of the following alternative agreements?
    A. Al receives $30,000 per year for life and one-half of the jointly owned stock.
    B. Al receives $50,000 per year in years 1, 2, and 3 and $30,000 per year for the remainder of his life. He does not receive any of the stock.
    C. Al receives $80,000 in year 1 and $30,000 per year for the remainder of his life.

    Please show any work computation include in answers.

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    Solution Preview

    Amanda Sims, Managing Partner
    Aspen Associates, Inc.
    100 James Tower
    Denver, CO 80208

    Dear Ms Sims:

    The purpose of this letter is to discuss the advantages and disadvantages of modifying the filing status of your corporation from cash basis to accrual basis of accounting. I understand you have some concerns about the cost of converting the data at year end from a method to satisfy the bank to your income tax reporting method.

    Of course, you understand that the corporation is a personal service corporation as defined under Code Section 269A which categorizes certain types of professions as those providing personal service. Tax law does not allow the graduated rate structure as it does for other corporations, and any earnings left in the corporation will be taxed at a flat 35% in ...

    Solution Summary

    The 550 word solution includes a letter explaining PSC rules to the managing partner. It also discusses tax law as it relates to the treatment of alimony versus property settlement in a divorce decree.