1. Explain each of the following terms that apply to corporations: a. separate l
ID: 2501020 • Letter: 1
Question
1. Explain each of the following terms that apply to corporations:
a. separate legal entity
b. limited stockholder liability
c. income tax liability
d. government regulation
2. At what level of government are corporations created?
3. What are organizational Expenses? Give a few examples.
4. There are two main sources of stockholders' equity. What are they?
5. What is retained earnings? Where do retained earnings come from. Is retained earnings the same thing as cash?
6. All corporations issue common stock. Name the four rights of the common stockholder.
7. Preferred stock has a fixed (unvarying) dividend. There are two ways that this dividend may be described; what are they?
8. What is cumulative preferred stock?
9. Johnson Corporation issues 1,000 shares of $10 par common stock and receives $15 per share. How would this transaction be recorded?
10. If common stock is issued at a premium, as in question 7, is the excess considered net income for the corporation? Explain.
Explanation / Answer
1)
a) Seperate legal entity means that thecorporation is seperate from the individuals who participate in it.This essentially means that for a corporation , the directors andshareholders are seperate from the corporation.
A seperate legal entity can enter into contracts , be sued , can sue like any other individual
b) Limited stockholder liability : When a limited liability company is being sued, then the plaintiff is suing the company not its directors or shareholders. A shareholder in a limited company is not personally liable for any of the debts ofthe company. Shareholder is only liable upto the value of their investment.
c) Income tax liability means the total amount of tax that a corporation has to pay to an appropriate authority as a resulty of occurance of a taxable event.This amount is determined by applying appropriate tax rate applicable.Taxable income includes annual business income, sale of asset etc
d) Government regulations :
All businesses, regardless of type, have to comply with statutes (laws) and regulations . These statutes and regulations can come from all levels of government; federal, state, and local. Some of these statutes and regulations apply regardless of the nature of the business and, of course, a venture engaged in business in more than one state or local jurisdiction must comply with applicable laws and regulations from all applicable jurisdictions.
2) Corporations are created under the laws of the state in which it is registered.
3) Organizarional expenses are expenses incurred to start or create a corporation. All expenses leading to starting anew venture are organizational expensesand can be amortised.
Some examples are - legaland professional fees to create / register a company, investigating the potential of a new venture, training employees statutory fees paid
4) Two main sources of stockholders equity are
a) paid in capital
b) retained earnings
5) Retained earnings isthe amount of earning not paid asdividend and retained by the company touse in business or to pay off debts.
Retained earnings comesfromthe excess of earnings of a business which isnot distributed as dividend. This amount comes fromthe incomestatement ofthecompany and is the excess ofincome over expenditure.Thisexcess whiuch isretained inthe company is commulated overtimeand isshoewn in theBalance Sheet under stockholders equity section
Retained earning is not the same thing as cash. Retained earning is a running total of the company's profit. They represent past profits and a major portion of these profits have been reinvested.Hence the company may not have the cash which is shown under retained earnings.
6) 4 rights of common stockholders are as under
1) Right toshare in the profitability of the company - All stakeholders have a right in the profits of the company tothe extent of their shareholding
2) Right to control over management - This right can be exercised as they have a say in electionof board of directors
3) Right to buy new shares -They have a pre-emptive rights which means that If the company issues new shares to the public, current shareholders have the right to buy a specific number of shares before the stock is offered to new potential shareholders.
4) Right to vote -All common stockholders have a right to vote in the annual general meeting of the company
7) the unyeilding fixed dividend can be terned as
1) Interest : As thepayment amount is fixed and has to be paidif the company makes profits .
2)Dividend : As it is subject to the company making profits , if the comapnydoes not make profits the fixed amount will not be paid.Hence it has the feature of dividend also.
8) A commulative type of preferred stock has a provision that stipulates that if any dividends has not been paid in the past, that dividend must be paid out to preferred shareholders first, before common shareholders can receive dividends.
9) Thistransaction will be recorded as under
Cash (1000* 15) Dr 15000
Common stock (1000*10) Cr 10000
Paid in capital in excess ofpar value ( 1000 * 5) Cr 5000
( To record issuance of shares at a premium)
10) If common stock is issued at a premium the excess is not considered as revenue because this amount has not been received from operations of the company but has been received because of net worth of the company and is provided to company by the shareholders to use in the business and to further the business income.
The treatment of share premium is the same as common stock and is treated as liability in the Balance Sheet
Further share premium money has certain restrictions and can be used for specific purpose only.
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