Question

Leona, whose marginal tax rate on ordinary income is 37 percent, owns 100 percent of the stock of Henley Corporation. This year, Henley generates $1 million of taxable income.
If Henley wants to pay all of its after-tax earnings to Leona as a dividend, calculate the amount of the dividend payment.
Calculate Leona’s tax due on the dividend computed in part a, and her after-tax cash flow from the dividend receipt.
Compute the combined corporate and individual tax burden on Henley’s $1 million of current year income, and the effective combined tax rate on this income.

Answer 1

Answer: See explanation

Explanation:

First and foremost, it should be noted that there's a flat tax rate of 21% on the taxable income, therefore the after tax income will be:

= (1 - 21%) × $1 million

= 79% × $1 million

= $790,000

Therefore, the amount of the dividend payment is $790,000 which is given to Leona.

The after tax cash flow from the dividend receipt will be:

= $790,000 - (20% × $790,000)

= $790,000 - (0.2 × $790,000)

= $790,000 - $158,000

= $632,000

Therefore, the total tax by Henly and Leona will then be:

= $210,000 + $158,000

= $368,000.

This is 36.8% (368000/1 million) of the tax rate.