Double taxation of corporate income has caused many contractors to explore alternative business structures, such as the S corporation and the limited liability company (LLC). Recent changes in the tax laws, however, confer new benefits on C corporations that may cause some contractors to reconsider this form of business.

AMT Exemption

"Small corporations" are now entitled to an exemption from alternative minimum tax (AMT). This exemption is particularly valuable to contractors that defer significant amounts of taxable income through the use of an accounting method other than the percentage-of-completion method. Percentage-of-completion is required for AMT purposes.

The exemption may also provide tax relief for contractors with a significant investment in heavy equipment. AMT uses less favorable depreciation methods than those used for regular tax purposes.

An additional benefit is that contractors who qualify for this exemption aren’t required to make lookback computations on Form 8697.

To qualify as a small corporation for purposes of the AMT exemption, a corporation must meet the following requirements:

• Average annual gross receipts for the first three tax years beginning after 1993 must not exceed $5 million, and
• Average annual gross receipts for the most recent three tax years prior to the filing year must not exceed $7.5 million

Note: Not all states have adopted the federal provisions, so be sure to review this issue with your tax advisor.

Qualified Small Business Corporation

Many contractors that operate as C corporations will meet the requirements for treatment as a Qualified Small Business Corporation (QSBC). Subject to certain limitations, non-C corporation shareholders can exclude 50% of the gain from the sale of QSBC stock held for more than five years. In addition, under changes made by the 1997 tax law, a shareholder can roll over the gain on QSBC stock held for at least six months by reinvesting the proceeds in another QSBC.

Review the Pros and Cons

Despite the popularity of alternative business structures, contractors should not automatically reject the C corporation. To determine the appropriate form of business for your firm, conduct a thorough review of your financial situation and weigh the tax advantages described above against the potential disadvantages.