C Corporation Taxation

Why this topic matters

Federal Taxation of Entities is Area V of Taxation and Regulation (REG), 23–33% of the section. C corporations are taxed at a flat 21%, and shareholders are taxed again on dividends — so questions focus on forming a corporation tax-free, computing corporate taxable income (and how it differs from book income), and taxing distributions.

Forming a corporation — Section 351

No gain or loss is recognized when property is transferred to a corporation solely for its stock if the transferors are in control (at least 80% of voting power and 80% of each class of nonvoting stock) immediately after the exchange.

• Services are not "property" — stock received for services is taxable compensation, and the service provider's stock doesn't count toward control unless they also transfer property of more than a nominal value.
• Boot (cash or other property) triggers gain equal to the lesser of realized gain or boot received.
• Liabilities assumed by the corporation are generally not boot — but they are treated as boot if there is a tax-avoidance purpose, and they trigger gain to the extent they exceed the transferor's total basis in the property transferred.
• Shareholder's stock basis = basis of property transferred + gain recognized − boot received − liabilities assumed by the corporation.
• Corporation's basis in the property = transferor's basis + gain recognized by the transferor (limited if built-in losses are imported).

Corporate taxable income

Item	Corporate rule
Tax rate	Flat 21%
Dividends received deduction	50% if ownership < 20%; 65% if 20% to < 80%; 100% if 80% or more (affiliated). The 50% and 65% deductions are limited to that percentage of taxable income (computed without the deduction) unless the full deduction creates or increases a net operating loss. Holding period over 45 days required.
Charitable contributions	Limited to 10% of taxable income (before the charitable deduction, dividends received deduction, net operating loss carryback, and capital loss carryback). From 2026, the One Big Beautiful Bill Act (OBBBA) allows a deduction only for amounts above 1% of taxable income. Excess carries forward 5 years. Accrual-basis corporations may deduct gifts paid by the 15th day of the 4th month after year-end if authorized by the board.
Capital gains and losses	No preferential rate; capital losses only offset capital gains; net capital loss carries back 3 years and forward 5 as short-term
Net operating losses	Carry forward indefinitely, limited to 80% of taxable income; no carryback (except farming losses)
Business interest (Section 163(j))	Limited to business interest income + 30% of adjusted taxable income — which OBBBA again computes before depreciation and amortization (like earnings before interest, taxes, depreciation, and amortization (EBITDA)) for tax years beginning after 2024. Excess carries forward. Small businesses (average gross receipts under the indexed threshold, about $31 million) are exempt.
Organizational and start-up costs	Deduct up to $5,000 each (reduced once costs exceed $50,000); amortize the rest over 180 months
Meals and entertainment	Business meals 50% deductible; entertainment nondeductible
Nondeductible items	Federal income tax, fines and penalties, political contributions, lobbying, life insurance premiums where the corporation is beneficiary
Executive compensation	Public companies cannot deduct compensation above $1 million per covered employee
Domestic research costs	Deductible immediately again (OBBBA, new Section 174A)

Reconciling book and taxable income

Schedule M-1 (Schedule M-3 for corporations with $10 million or more in assets) reconciles net income per books to taxable income.

Add to book income	Subtract from book income
Federal income tax expense	Tax-exempt interest
Excess of capital losses over capital gains	Tax depreciation above book depreciation
Nondeductible fines, penalties, 50% of meals	Dividends received deduction (not in book income)
Book depreciation above tax depreciation	Prepaid income included in a prior tax year
Life insurance premiums (corporation beneficiary)	Life insurance proceeds
Charitable contributions above the limit	Charitable carryovers used

Schedule M-2 reconciles beginning and ending unappropriated retained earnings.

Other corporate taxes

• Corporate alternative minimum tax: 15% of adjusted financial statement income, only for corporations averaging more than $1 billion.
• Accumulated earnings tax: 20% on earnings retained beyond the reasonable needs of the business to avoid shareholder dividends (credit of $250,000; $150,000 for personal service corporations).
• Personal holding company tax: 20% on undistributed income of closely held corporations earning mainly passive income.
• Stock buyback excise tax: 1% on public company repurchases.

Distributions and earnings and profits

• A distribution is a dividend to the extent of current earnings and profits (E&P) first, then accumulated E&P.
• Any excess is a tax-free return of capital (reducing stock basis), and then capital gain once basis reaches zero.
• E&P starts with taxable income and adjusts toward economic income: add back tax-exempt income and the dividends received deduction; subtract federal income taxes, nondeductible expenses, and excess capital losses; use straight-line depreciation (bonus and Section 179 are spread over 5 years for E&P).
• Property distributions: the corporation recognizes gain (never loss) as if it sold appreciated property at FMV. The shareholder's dividend = FMV − liabilities assumed; the shareholder's basis in the property = FMV.
• Stock dividends are generally nontaxable.

Compliance

• Form 1120 is due the 15th day of the 4th month (April 15 for calendar years), with a 6-month extension.
• Estimated payments are due in the 4th, 6th, 9th, and 12th months.
• Consolidated returns are allowed for affiliated groups (80% ownership); intercompany dividends are eliminated.

How it is tested

• Apply Section 351: recognized gain and basis for the shareholder and corporation.
• Compute taxable income with the dividends received deduction, charitable limit, and capital losses.
• Reconcile book to taxable income (Schedule M-1).
• Classify distributions as dividend, return of capital, or gain.