Which of the following best describes a disadvantage of corporations related to shareholder taxation?

• A. Shareholders must pay self-employment tax on corporate earnings.
• B. Shareholders are personally liable for corporate debts.
• C. Shareholders cannot transfer their shares freely.
• D. Shareholders are subject to double taxation on corporate profits.

Answer: (D)

Verified step by step guidance

1. Understand the concept of double taxation: Double taxation occurs when corporate profits are taxed at two levels—first at the corporate level when the company earns profits, and then at the individual level when shareholders receive dividends.
2. Recognize that corporations are separate legal entities: This separation means that the corporation itself pays taxes on its earnings, unlike sole proprietorships or partnerships where profits are taxed only at the individual level.
3. Identify how dividends are taxed: After the corporation pays taxes on its profits, any dividends distributed to shareholders are considered taxable income for the shareholders, leading to the second layer of taxation.
4. Compare this disadvantage to other options: Self-employment tax, personal liability for corporate debts, and restrictions on share transfer are not applicable disadvantages for corporations. Corporations provide limited liability protection and allow free transfer of shares.
5. Conclude that the correct disadvantage is double taxation: This is a unique feature of corporations that impacts shareholders directly, making it a key consideration in corporate taxation.