# Credits 12. How are the small business alternative credit disqualifiers under the CIT calculated for a part-year shareholder?

A taxpayer will be disqualified from taking the small business alternative credit if a shareholder receives more than \$180,000 in compensation or if the sum of the shareholder's share of business income and compensation exceed this amount. MCL 206.671(1). The term "shareholder" is defined as a person who owns outstanding stock in a corporation or a person that is a member of a business entity which files as a corporation at the federal level. MCL 206.609(5). These disqualifiers are computed for the tax year. Id. Thus, a part-year shareholder will need to prorate its stock ownership to calculate the disqualifiers when reporting for a full tax year.

For the compensation disqualifier, the part-year shareholder must annualize compensation for the length of time spent as a shareholder to reach what compensation would have been for the entire year. The annualized amount is then measured against the compensation disqualifier. To annualize, the part-year shareholder will take compensation for the period that it was a shareholder, multiply by 12, and then divide that result by the number of months as a shareholder.

The business income disqualifier is calculated by multiplying the percentage of ownership by the business income (including carryback or carryover of a net operating loss or capital loss to the extent deducted in arriving at federal taxable income and net of the loss adjustment.) For a part-year shareholder this means that the shareholder must prorate its percentage of ownership for the year in order to determine its proper annual percentage of ownership and share of business income for the tax year. To prorate, the part-year shareholder will divide the number of shares it held for the year by the total shares, then multiply the result by a fraction, the numerator of which is the number of months that the part-year shareholder was a shareholder and the denominator of which is 12. The result will be the part-year shareholder's percentage of ownership for the tax year. This percentage of ownership is then applied to the adjusted business income of the taxpayer to determine the part-year shareholder's share of business income. Finally, the resulting share of business income is added to the part-year shareholder's annualized compensation.

The following examples illustrate the calculations:

1) Corporation A has 50,000 shares of outstanding stock for the 2013 calendar year and business income of \$100,000 for the year. Individual C obtains 15,000 shares on July 1, 2013. C also received \$45,000 in compensation for July through December. Corporation A must compute the disqualifiers for the 2013 tax year.

Compensation: (\$45,000 x 12) /6 = \$90,000 Percentage of Ownership: 15,000/50,000 = 30%; 30% x 6/12 = 15% Share of Business Income: 15% x \$100,000 = \$15,000 Compensation combined with share of business income: \$90,000 + \$15,000 = \$105,000 Corporation A is not disqualified on C's compensation alone, which is \$90,000 for the tax year. Nor is it disqualified by compensation plus C's share of business income which equals \$105,000 for the tax year. This part-year shareholder does not cause the taxpayer to be disqualified from the small business alternative credit.

2) Next, consider a taxpayer with 100,000 shares of outstanding stock and \$300,000 in business income for the 2013 calendar year. Its employee, X, becomes a shareholder on November 1, 2013, obtaining 20,000 shares. X is paid \$25,000 in compensation for November through December and is considered an active shareholder.

Compensation: (\$25,000 x 12) /2 = \$150,000 Percentage of Ownership: 20,000/100,000 = 20%; 20% x 2/12 = 3.3% Share of Business Income: 3.3% x \$300,000 = \$9,900 Compensation combined with share of business income: \$150,000 + \$9,900 = \$159,900. This part-year shareholder's combined compensation and share of business income do not cause the taxpayer to be disqualified.