You are asked to consult on a project for M LLC. M an LLC owned 75% by person A and 25% by person B.

The company, which was formed as an LLC on April 1st 2020, makes custom cloth face coverings. They have selected a calendar year-end (December 31st) for tax purposes and will file their tax return on the accrual basis of accounting. In the accompanying Excel file, you will find projected (book basis) financial statements for the year ending December 31, 2021.

They know that the second half of November and December will be busy months in terms of sales but they don't expect anything unusual in terms of other activities so they are pretty comfortable that these projections will be reflective of their 2021 profits when the year is closed out.

As an LLC, M has the option to choose to be taxed as a C corporation or as a partnership. They are asking for our help to determine which would be the best option. Keep in mind that what is best for one owner may not be what is best for the other owner. You must weigh all factors in providing a recommendation. There may not be a clear-cut right answer and you should be prepared to explain your position for your recommendation to both person A and B.

When conflicts arise, it is our job, as tax consultants, to lay out all of the options, explaining costs and benefits of each option, and let the taxpayer make the choice. Ultimately, they may ask you to recommend which option you would choose if you were in their position. You should be prepared to make such a recommendation. Information Provided by M and Person A and B

Assume that all information pertains to tax year 2021 unless otherwise indicated.

Informations are given as followed:

1. The "Travel, Meals, and Entertainment" expense account includes expenses for person A to travel to Germany to visit a potential customer. The entire trip was 12 days. Person B spent 9 days visiting the customer, which included a day treating some of their top executives to a Bayern Munich football game. The remaining 3 days, B spent sight-seeing. The costs related to this trip are as follows:

All other expenses in this account are 100% deductible business expenses for travel only (no other meals or entertainment)

flight ticket	$2300
meals for the entire travel	$2400
Football tickets	$3500
hotel for the entire trip	$3600

2. "Equipment" expense is the cost of 2 industrial grade sewing machines for $200,000 each and a cloth cutting machine for $100,000. All were purchased and placed in service on 4/1/21.

3. "Bad debt" expense is the GAAP method allowance for bad debts based on an estimate of uncollectible accounts. Only one account receivable was deemed completely uncollectible. This was an account for a customer that had closed their doors due to the financial difficulties caused by COVID. They owed M a total of $20,000.

4. "Employee Benefits" expense includes payments of $8,000 that M has paid for clothing for both A and B. The owners feel they need to look their best to be good representatives of the company. Though these clothes could be worn on outside of work, the owners choose not to wear these clothes anywhere else and consider them their work "uniform". Also included in the "Employee Benefits" expense is $2,000 for personal protective equipment (masks, face shields, gloves, hand sanitizer etc) for all employees who work on-site.

5. On 9/30/21, M paid $18,000 for a contract to rent a storage facility. The amount paid was the full rent for the entire 6 months of the contract. The lease began on October 1, 2021 and extends through March 31, 2022. Included in the book basis P&L "Rent" expense is the rent for 3 months (October through December 2021).

6. On November 1, 2021, M received a prepayment of $50,000 for a shipment of masks. The masks will be shipped in mid-January 2022. Based on the terms of the contract, GAAP rules required the $50,000 of income be reported in 2021 and thus this amount is included in sales for 2021.

7. At the end of 2021, M projects they will have requests for refunds of $20,000 which will not be paid until early in 2022. The expense for these refunds has been included in the "Refunds" expense for GAAP purposes.

8. Through inquiry you discover that $300,000 of salaries for the office staff (currently included in "Salaries" expense) relates to the inventory production and storage processes for the year.

9. M produced 200,000 masks this year. Most of these have been sold, but 15,000 are expected to be still at the production facility as of December 31, 2021 (i.e. they are in inventory, not cost of goods sold).

10. M would like to elect out (not claim) bonus depreciation or Section 179 expense.

11; M has distributed $75,000 of cash to person A and $25,000 of cash to person B during the year (Assume these would be qualified dividends if applicable).

12. Person B is married, filing a joint return. She has no children and will use the standard deduction. His wife is a surgeon with a salary of $550,000. They have no other income.

13. Person A is single with no children. He lives with her partner but they are not married. B works as a camp counselor during the summer and receives a salary of $25,000. This is her only other source of income. Belinda will also use the standard deduction. She cannot claim her partner as a dependent.

14. M has not paid any salaries to Person A or B.

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Required:

Person A and B have come to your firm for help and advice, consulting about 3 questions.

1) What is M's taxable income for the tax year ending December 31, 2021 based on their projections of book income and the information they provided above? Please provide a complete book-tax reconciliation work-paper showing each book-tax difference.

Add additional lines as needed. When you are done, your "tax" P&L should show each line item as you would report it on the tax return.

2) If M were to choose to be taxed as a C corporation, what would be the tax impact on M, Person A, and Person B? How would that differ if they choose, instead, to be taxed as a partnership (ignore any self-employment tax, net investment income tax, or alternative minimum tax implications)? Provide calculations of tax liability for M, Person A, and B under each scenario ignoring any tax credits and prepayments.

3) What is your recommendation? Should they elect to be taxed as a partnership? Or as a C corporation? What impact could this decision have in the future?

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