Suppose you are advising a college basketball coach on whether to organize his summer basketball camps for high school students as a C corporation versus an S corporation. The taxpayer plans to operate the camps for 5 years, then wind up the corporation by simply paying any retained earnings as a dividend in the final year. The taxpayer faces a marginal tax rate of 35% and the corporate tax rate is a flat rate of 35%. The expected pretax rate of return on the camps is 12% per year (before any compensation or dividends to the taxpayer).

A. Calculate the after tax rate of return for S corporation and C corporation

R=rate of return tp=tp personal rate tc=corporate rate

S corporation R(1-1p)

C corporation {[1+R(1-tc)]n(1-tp)+tp}1/n-1

Which form provides the highest rate of return?

B. Explain, in words, how it might be possible to lower the shareholder-level tax to the required rate in part (c) such that the after-tax rate of return to the taxpayer is the same in both corporate forms.