! 8.4 Decision Making: Apply tax laws, regulations, and court
cases to individual situations, identifying and communicating
planning opportunities and compliance needs.
MIKE’S SPORTING GOODS, INC.
A “C” CORPORATION
1120 RETURN PROJECT
As the newest member on the corporate tax department team, the senior partner
assigns you to prepare corporate tax returns for Mike’s Sporting Goods, Inc.
Mike’s Sporting Goods, Inc., is a Maryland C-Corporation that sells athletic shoes
and clothing to sports teams at the college level. The company was originally
started by Mike Jones and three guys he met while attending UMUC, all of whom
were state champions in various sports. Juan Delaross was a swimmer who won
the state championship with his killer butterfly stroke in the 100-meter fly. Elroy
Mulcane was the college champion in golf and Scott Barnett was the state
cycling champion three years in a row. Mike won the state championship as a
sprinter all four years of college.
Starting the company was Mike’s idea, he owns the largest percentage of stock,
and is the only owner who works in the business. The other three investors
brought money to the table, but never planned on working in the sporting goods
store. Therefore, no one questioned Mike when he suggested naming the
corporation Mike’s Sporting Goods, Inc. In addition, Mike has always had a
strong desire to be known as the big guy on campus even after graduation.
Location
As the old saying goes, Location, location, location. Luckily, Juan is a
commercial real estate broker with a reputation for finding the perfect location for
small businesses. After showing the location to the other investors, everyone
agreed it would attract their target market of young athletic enthusiasts. As
corporate officers, Mike and Juan signed a ten-year lease that required $9,200
per year in rent.
The building was built just a few years ago, so minimal expense was projected
for maintenance and repairs. In 20Y5, Mike kept repairs expense down to $800,
which really pleased Juan, Elroy, and Scott.
Corporate investments
During 20Y5, Mike’s Sporting Goods, Inc. received the following investment
incomes:
! Interest from its own Accounts Receivables = $1,500
! Interest from corporate bonds = $4,000
! Interest from tax-exempt state bonds = $5,000
! Dividends from various U.S. corporations = $10,000
o Mike’s Sporting Goods, Inc. owns 20% of the stock of one
corporation
Since Mike’s Sporting Goods, Inc. did not have a net operating loss, its only entry
on line 29 is the dividends-received deduction of $8,000 from Schedule C, page
2.
Year-end 20Y5, includes a $3,600 capital losses from the sale of securities.
Revenue from Sales
The corporation, which uses an accrual basis of accounting on a calendar year,
brought in $2,910,000 in gross sales in 20Y5. Just less than 1% of gross sales
were returned, thus bringing net sales to $2,890,000. Thanks to Mike’s
purchasing savvy, cost of goods sold was $2,050,000, which is less than the
industry standard of 80% of sales.
Other Expenses:
Advertising
While the stockholder’s had intended on spending more on advertising,
Mike only spent $8,700 and most of it was in Website development.
Bad debt expense
The corporation uses the specific account write off method for
uncollectible accounts receivable. A total of $1,600 in accounts receivable
were written off in 20Y5.
Charitable contributions
During the year, Mike’s Sporting Goods, Inc. contributed $11,400 to the
UMUC Traveling Athletes Fund and $12,600 to the UMUC Athletic
Scholarship Fund.
Depreciation
On Line 8(a) of the Schedule M of the 1120, Mike’s Sporting Goods, Inc.
reports the difference between the depreciation claimed on the tax return
and the depreciation shown on the corporation’s books.
Total depreciation from Form 4562 (not illustrated) is $17,600. $12,400 is
included as cost of goods sold in Line 5 of the Form 1125-A. Enter the
balance of $5,200 on line 20. Book Depreciation is $15,980.
Interest expense:
Mike’s Sporting Goods, Inc. incurs interest expense on debt to finance
operations and to buy investments when a deal is just too good to pass
up. Elroy is a securities broker with a national brokerage firm, therefore
he handles all corporate investments. In 20Y5, the corporation accrued
$27,200 in interest expense plus $850 in interest on notes used to carry
tax-exempt state bonds.
Salaries
When the corporation was first formed, the four corporate officers agreed
to keep their salaries low for the first five years to allow the business to
grow. Thus, they agreed to pay Mike $55,000 per year, since he will
manage the store, and $5,000 per year to the other stockholders.
Thereby, total officers salaries will be $70,000 per year for the first five
years. Hint: use Schedule E.
Since Mike will be handling the ordering, inventory management, and
other administrative tasks, all employees will be in sales. Given the nature
of sporting goods stores, everyone agreed the staff should be college
students currently attending UMUC. Their goal was to keep wages below
$50,000 per year. In 20Y5, Mike managed to keep total wages at
$44,000.
All other expenses
All other expenses of operating Mike’s Sporting Goods, Inc. totals
$78,300. These expenses include legal fees, office expenses, and sales
commissions. Attach a schedule that itemizes these expenses to the
return.
Taxes and credits
Taxes:
At December 31, 20Y5, the corporation had $55,387 in accrued federal
income taxes.
Mike’s Sporting Goods, Inc. made four estimated tax payments totaling
$69,117 as follows:
! $17,280 on 4/15/20Y5
! $17,280 on 6/15/20Y5
! $17,280 on 9/15/20Y5
! $17,871 on 1/15/20Y6
See the cancelled checks in Appendix F.
Tax Credits:
The work opportunity credit is an incentive to hire persons from groups
with a particularly high unemployment rate or other special employment
needs. Given the high unemployment rate of college students, Mike’s
Sporting Goods, Inc. is eligible for a $6,000 work opportunity credit. Hint:
use Form 5884. The credit will then carry over to the Schedule J of the
1120.
Reconciling Book to Return:
Mike’s Sporting Goods, Inc. has the following non-deductible expenses on its
Income Statement Per Books:
Premiums paid on term life insurance on corporate officers $9,500
Interest paid to purchase tax-exempt state bonds 850
Nondeductible contributions 500
Reduction of salaries by work opportunity credit 6,000
Total $16,850
Deductible state and local taxes (not federal income tax) totaled $15,000
If Mike’s Sporting Goods, Inc. owes income tax, the corporation will mail a check;
if, otherwise, credit any overpayment to next years estimated taxes.
III. Steps to Completion:
Prepare IRS Form 1120
1. Prepare Schedules M-1: Reconciliation of Income (Loss) per Books with
Income per Return using financial data in the Appendices.
2. Prepare Schedule M-2: Analysis of Unappropriated Retained Earnings per
Books using financial data in the Appendices.
IV. Deliverables:
The following forms and schedules, combined as a single PDF document, are
required:
! Form 1120
! Form 4562: Depreciation and Amortization
! Schedule C: Total Special Deductions
! Schedule D: Net Long-Term Capital Gains or Losses
! Schedule J: Total Tax
! Schedule J: Total Payments and Credits
! Schedule K: Accuracy
! Schedule L: End of Tax Year: Total Liabilities and Stockholder’s Equity
! Form 8949: Totals for Proceeds, Basis, & Gain/Loss
! Form 1125-A: Total for Cost of Goods Sold
! Form 3800: General Business Credit: Credit Allowed for the Current Year
! M-1 Income
! M-2 Balance at End of Year
! In addition, each student must separately submit their Group Contribution
Report in their Assignment folder.
Appendices: Table of Contents
• Appendix A: Basic corporate information
• Appendix B: List of select Accounts and Balances per Book
o (Financial basis, NOT tax basis)
• Appendix C: Income Statement per Books
o (Financial basis, not tax)
• Appendix D: Comparative Balance Sheet per Books
o (Financial basis, not tax)
• Appendix E: General Ledger Retained Earnings account in T-account
format.
• Appendix F: Cancelled checks to the Internal Revenue Service for
estimated quarterly tax payments
APPENDIX A: Basic corporate information
Corporate Name Mike’s Sporting Goods, Inc.
Corporate Address 422 Bruce Lane
Annapolis, MD 21401
Federal Tax ID 52-9746858
Corporate officers:
President/CEO Michael S. Duke
Vice President Juan Delaross
Treasurer Elroy Mulcane
Secretary Scott Barnett
APPENDIX B: List of select Accounts and Balances per Book (financial-basis,
not tax basis). Account balances may or may not be reported on Form 1120.
Hint: You will need these items to prepare Schedule M of the 1120.
Account Account Balance
Advertising 8,700
Bad debts 1,600
Charitable Contributions to Not-for-Profit organizations 24,000
Charitable Contributions to political campaigns 500
Compensation of officers 70,000
Cost of goods sold 2,050,000
Depreciation–indirect 3,580
Dividends received 10,000
Federal income tax accrued 55,387
Interest expense on note to buy tax-exempt state bonds 850
Interest expense on note to buy corporate bonds 27,200
Interest income on tax exempt state bonds 5,000
Interest income on taxable corporate bonds 5,500
Loss on securities 3,600
Maintenance and Repairs 800
Net income per books after tax 517,783
Other operating expenses 78,300
Premiums on life insurance 9,500
Proceeds from life insurance 9,500
Rental expense 9,200
Salaries and wages–indirect 44,000
Sales – gross 2,910,000
Sales returns and allowances 20,000
State and Local Taxes 15,000
APPENDIX C: Income Statement per Book (financial, not tax)
Mike’s Sporting Goods, Inc.
Income Statement (per Books)
Year ending 20Y5
Revenue:
Gross sales $ 2,910,000
Less: Returns & allowances 20,000
Net sales 2,890,000
Cost of goods sold 2,050,000
Gross Margin 840,000
Operating expenses:
Advertising 8,700
Bad debt 1,600
Charitable contributions:
Deductible 24,000
Non-deductible 500 24,500
Depreciation 3,580
Equipment rental 9,200
Life insurance 9,500
Maintenance & repairs 800
Officers compensation 70,000
Salaries and wages 44,000
Total operating expenses 171,880
Operating Income 668,120
Other revenue and gains:
Dividend income 10,000
Interest income: Maryland bonds 5,000
Interest income: All other bonds 5,500
Proceeds from life insurance 9,500
Total other revenue and gains 30,000
Other expenses and losses:
Accrued federal income taxes 55,387
Other operating expenses 78,300
Loss on investments 3,600
Total other expenses and losses 137,287
Total income before interest and taxes 560,833
Interest expense on note to purchase taxexempt bonds
850
Interest expense on all other notes 27,200 28,050
Income before tax 532,783
Less: State & Local Income tax 15,000
Net income per books after tax 517,783
APPENDIX D: Comparative Balance Sheet per Books (financial, not tax)
Mike’s Sporting Goods, Inc.
Balance Sheet per Books
December 31, 20Y4 and 20Y5
Year Ending 20Y4 Year ending 20Y5
Assets
Cash 114,700 329,564
Accounts receivable (net) 98,400 235,001
Inventory 426,000 495,479
Tax-exempt securities 100,000 120,000
Other current assets 26,300 17,266
Other investments 100,000 80,000
Buildings 272,400 296,700
Accumulated depreciation 88,300 184,100 104,280 192,420
Land 20,000 20,000
Other assets 14,800 19,300
Total assets 1,084,300 1,509,030
Liabilities & Stockholder’s Equity
Accounts payable 428,500 334,834
Notes payable (short term) 4,300 4,300
Other current liabilities 6,800 7,400
Notes payable (long term) 176,700 264,100
Stockholder’s Equity
Common stock 200,000 200,000
Retained earnings: Appropriated 30,000 40,000
Retained earnings: Unappropriated 238,000 658,396
Total liabilities & Stockholder’s
equity 1,084,300 1,509.030
APPENDIX E: General ledger Retained Earnings account in T-account
format
General Ledger
Retained Earnings Account
Explanations: Debits Credits Explanations:
Contingencies 10,000 238,000 Beg balance
Accrued income tax 55,387 532,783 Net Income before tax
Dividends paid 65,000 18,000 Income tax refund
Ending balance 658,396
APPENDIX F: Canceled checks
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