Corporate Tax
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CHAPTER 3—FORMATION OF A CORPORATION—This was done for my own use. Note, to speed my typing, I left off some of the parenthesis in the code citations. I will work on this as time permits.

  1. INTRODUCTION TO SECTION 351
    1. See Realization Outline. Shareholder (SH) who transfers appreciated property to a corporation in exchange for stock has a realized gain.
    2. Sec. 351 provides for non-recognition treatment in some circumstances.
    3. Non-recognition is clearly desirable by the SH, but why does society allow it?
      1. SH does not have cash to pay tax with.
      2. SH’s investment has simply changed form, no real disposition.
      3. Taxation would discourage formation of corporations, and could have an adverse impact on the economy. SH/TP faced with large tax bite might chose not to form corp., this could restrict growth since liability protection was lacking, business hire fewer new employees, etc.
  2. REQUIREMENTS FOR NON-RECOGNITION UNDER SECTION 351
    1. Control Immediately After the Exchange 351a, 368c
      1. 368c—ownership of stock possessing at least 80% of the voting power
        1. and 80% of total number of shares of all other classes
      2. no limit on number of transferors
      3. part of an integrated plan, but not necessarily simultaneous
        1. mutually interdependent steps
      4. won't have control if transfer away stock after incorporation under pre arranged agreement
        1. had control immediately after transfer, but momentary control does not suffice
    2. Transfers of Property 1.351-1a1&2
      1. cash, capital assets, inventory, A/R, patents, etc.
      2. stock issued for services is not issued for property 351d1
        1. person who receives stock for services recognizes gain
        2. if he only gives services, his shares are not counted towards 80%
        3. if he gives property & services, all his stock is counted
          1. but stock for property must equal at least 10% of stock for services
          2. this rule applies to existing SH who wants new capital, too
    3. Solely for Stock
      1. does not include stock rights or warrants
      2. once could get securities as well as stock, but no longer
      3. some types of preferred stock do not qualify
  3. TREATMENT OF BOOT 351b, 358a &b1, 362a
    1. In General
      1. gain realized in a 351 transfer must be recognized to the extent of boot received 351b
        1. gain is characterized by the nature of the assets given up
        2. shareholder's basis in stock is increased by gain recognized
      2. corporation's basis in assets is stepped up to the extend of gain recognized 362a
      3. loss is not recognized
    2. Timing of Section 351(b) Gain
      1. year of the event for cash & other property
      2. real issue is corporate debt obligations received
        1. Treasury has ruled that 453 installment sale treatment is available
        2. corp. steps up basis in assets as TP recognizes gain
        3. TP immediately steps up basis in stock
  4. ASSUMPTION OF LIABILITIES 357, 358d
    1. 357 provides that, in general, assumption of SH liabilities by corp. is not boot
    2. two exceptions to 357 general rule
      1. 357b—treat liability assumption as boot if done for tax avoidance or non-business reasons
        1. debts incurred just before incorporation
        2. personal debts transferred to corp.
      2. 357c—designed to prevent TP from having negative basis
        1. if liabilities assumed exceed basis in assets given to Corp, TP recognizes gain
        2. but, don't include in "liabilities" anything that would be a deduction if paid by TP (i.e. accrued, but undeducted, interest, or A/P)
        3. note, that under 357 you can have recognized gain without any realized gain on the transfer of assets
      3. 2 issues here with no clear answer
        1. can the TP give his own note payable to the corp. & still give up liabilities in excess of basis?
          1. Lessinger court says yes, logic may be flawed
        2. what if TP remains personally liable on liabilities transferred to corp.?
    3. 358d provides that SH's basis in stock must be reduced by liabilities assumed by corp.
  5. INCORPORATION OF A GOING BUSINESS
    1. Cash basis TP may have A/R & A/P with 0 basis. Who pays tax?
      1. Hempt Bros.case holds corp.
        1. A/R are property under 352
        2. Transfer of property in a 351 exchange is tax free to transferor
      2. RevRul 95-74 clarifies IRS position with respect to 357c—Corp deducts liabilities that were not considered @ time of 351 transfer because of 357c
  6. COLLATERAL ISSUES
    1. Contributions to Capital 118a, 362a2&c
      1. when only 1 shareholder, or pro-rata over all shareholders
        1. no gain or loss to SH or to corp. when capital cont. is made
      2. when SH makes non-prorata return of shares
        1. Comr. v. Fink holds that SH may not deduct basis in shares given up
    2. Intentional Avoidance of Section 351
      1. Section 351 is not elective
      2. can structure deal to avoid 351
        1. some risk that court may reclassify
        2. classic situation—you own appreciated land
          1. you'd get LTCG if sold to 3d party
          2. you want to reap the benefits of subdividing as well
          3. so you transfer to a Corp in a taxable exchange—avoid 351 somehow (prearranged plan to dispose of 21%, etc.)
          4. you get LTCG on transfer, appreciation from subdivision is in Corp
    3. Organizational Expenses
      1. 248 allows Corp to amortize its organizational expenditures
        1. legal fees, fees to the state, accounting fees
      2. costs of issuing or selling stock & expenses of transferring assets to Corp are excluded
        1. expenses incurred with respect to a specific asset are added to its basis
      3. expenses connected with the acquisition of stock are personal to SH, n.d.

     

    CHAPTER 3—THE CAPITAL STRUCTURE OF A CORPORATION
  7. INTRODUCTION
    1. Policy issues regarding debt vs. Equity, and tax advantages of equity
    2. TP has the burden of proving that the distributions from a closely held corporation are in retirement of debt or interest paid on debt when IRS challenges them
      1. if IRS is successful, distributions will be reclassified as dividends
  8. DEBT VS. EQUITY
    1. Issue is typically should debt be reclassified as equity
    2. case law is a very mixed bag, no way to predict how a close case comes out
    3. Case law indicates factors of importance are
      1. form of debt
      2. ratio of debt to equity
      3. proportionality
      4. other factors
        1. does Corp make required payments
        2. do SH/Creditors enforce the obligation
        3. was debt issued at same time as Corp was formed
  9. SECTION 385 SAGA
    1. gives IRS power to set guidelines for determining whether an interest should be classified as debt or equity
    2. several sets of regulations have been proposed, all have been withdrawn
    3. the proposed regs indicated that we should consider
      1. form of the instrument—written note, or open account, demand or fixed, fixed interest
      2. whether there is subordination to other debts
      3. the ratio of debt to equity
      4. whether the item is convertible into stock
      5. is the instrument held pro-rata by the SH's
  10. CHARACTER OF LOSS ON CORPORATE INVESTMENT
    1. Section 1244 provides SH with ordinary loss on stock investment
    2. 166 governs loss on a loan to a Corp
      1. may be business (ordinary loss) or non-business(capital loss)
      2. TP must prove dominant motive for making loan
        1. Generes case deal with employee/SH—what was primary reason loan was made—to protect investment, or as officer to protect business of Corp
      3. this is one of the risks of calling investment debt not equity

    CHAPTER 4—NON-LIQUIDATING DISTRIBUTIONS
  11. DIVIDENDS IN GENERAL 243a, b1; 301a,c;316a;317a
    1. 301 regulates distributions of property with respect to stock
    2. under 316 distributions that are dividends are taxable income
      1. 316 provides that a dividend is
        1. any distribution of property made to shareholders
        2. out of E&P accumulated after 2/28/1913
        3. or out of E&P of current tax year
      2. 316 further provides that
        1. every distribution is made out of E&P if they exist
        2. a distribution comes out of the most recent E&P first
    3. corporate SH (as opposed to individuals who are shareholders of the corporation) may take a dividends received deduction
      1. 70, 80 or 100% depending on their ownership of
  12. EARNINGS & PROFITS 312a,c,f1,k1-3;316a;312
    1. E&P are not defined in the code
    2. 312 defines the effect certain transactions have on E&P
    3. E&P could be calculated from book surplus or TI, historically use TI
      1. add back certain non taxable items
        1. muni bond interest
        2. life insurance proceeds
        3. federal tax refunds
      2. add back certain tax deductions
        1. 243 dividends received deduction
        2. % depletion in excess of cost depletion
      3. subtract certain non-deductible items
        1. federal income taxes
        2. expenses to produce tax exempt income
        3. losses between related taxpayers
        4. T&E expenses
        5. charitable cont. in excess of 10%
      4. timing adjustments must be made
        1. SL rather than MACRS depreciation
        2. 179 not allowed
        3. capitalize construction period int. & tax rather than amortize
        4. amortize IDC normally deducted
        5. include all installment or completed contract gains
        6. inventories must use FIFO
  13. DISTRIBUTIONS OF CASH
    1. amount of distribution=amount of cash dist
    2. distribution is taxed in this order
      1. first as a dividend to the extent of E&P
        1. current first
        2. then accumulated E&P
        3. (E&P cannot go negative through distributions, only operations)
        4. if there is a current year loss, (and accumulated E&P at start of the year) E&P must be figured as of the dist. Date
          1. if loss cannot be earmarked to a period, prorate loss
          2. if loss can be earmarked, allocate it to a specific period
      2. second as a return of basis
      3. third as gain on the sale of stock
  14. DISTRIBUTIONS OF PROPERTY
    1. Consequences to Distributing Corporation
      1. Old General Utilities doctrine was no taxable event to Corp upon dist. to SH
      2. General Utilities was once codified in 311a2
      3. 311a2 still in Code, but now 311b provides that for appreciated property
        1. other than its own obligations
        2. in a nonliquidating distribution
        3. the Corp must recognize gain
      4. so 311a2 now really only stands for no recognition of loss upon distribution of depreciated property to SH
      5. Effect on corp's E&P
        1. gain recognized (net of tax) increases E&P
        2. E&P is then reduced by FMV of asset distributed
        3. if the SH assumes corporate liabilities, E&P is reduced by FMV-liab. assumed
    2. Consequences to the Shareholders 301 a, b,c,d
      1. amount of distribution is FMV, less any assumed liabilities
      2. follow 301
        1. div. to extent of E&P
        2. return of basis
        3. gain on sale of stock
      3. SH's basis in asset is FMV
    3. Distributions of Corporation's own Obligations
      1. trick was to distribute the corp's own obligation
        1. with below market interest rate
        2. SH picks up as dividend the FMV (discounted for low interest rate)
        3. Corp reduced E&P by face value
      2. law was changed to provide for consistency between SH & Corp using OID rules
        1. E&P is reduced by the issue price (FMV calculated under OID rules)
        2. SH has the same amount of div.
  15. CONSTRUCTIVE DIVIDENDS
    1. excessive compensation
    2. payment of personal expenses
    3. excessive rents
    4. interest on "debt" that s/b classified as equity
  16. ANTI-AVOIDANCE LIMITS ON DIVIDENDS RECEIVED DEDUCTIONS
    1. In General 243a1,3,b1,c;246a1,b,c;1059a,b,c,d,e1;1059e2,3
      1. 243 allows a dividends received deduction
        1. 70% if own ,20%
        2. 80% if own more than 20%, and less than 80%
        3. 100% if owns 80% or more (affiliated service group)
    2. Special Holding Period Requirements
      1. 246c—must hold common stock 46 days, preferred 91
      2. period starts anew whenever Corp diminishes its risk of loss
      3. so Corp must endure 45 days of market risk to gain div rec ded
    3. Extraordinary Dividends: Basis Reduction
      1. 1059 states that Corp must reduce its basis in underlying stock by the amount of the nontaxed portion of the dividend received if:
        1. it has not held the stock for 2 years before the div announcement date
        2. and it received an extraordinary dividend
          1. 10 percent of its basis in common stock
          2. 5 percent of its basis in preferred stock
            1. preferred as to dividends
          3. all dividends within 85 days are counted
          4. Corp may elect to use 10 and 5% of FMV
      2. two special situations--1059e1 states that any 301 distribution which is a redemption is an extraordinary dividend if it is
          1. part of a partial liquidation,
          2. or is nonprorata, between SH
      3. dividends between members of an affiliated group are not treated as extraordinary
      4. regular dividends on preferred stock with stated dividends (and not in arrears) will not be extraordinary
    4. Debt Financed Portfolio Stock
      1. 246A precludes dividends received deduction when there is debt financed stock
      2. stock is debt financed if it is portfolio stock encumbered by portfolio indebtedness
      3. portfolio stock--any stock unless:
        1. Corp owns 50% or more of voting power and value,
        2. or, Corp owns at least 20% of the voting power & value & 5 or fewer SH own at least 50% (excluding preferred)
      4. portfolio indebtedness is indebtedness directly attributable to the stock investment
        1. i.e. purchase money debt
        2. or stock is security for debt (you could have sold stock)
    5. Section 301(e) reduces E&P for certain corporate shareholders
      1. reduces their div received deduction, and basis in shares
      2. 301e provides that 312k&n adjustments to E&P (depreciation & timing items) do not apply to a 20% or more corp. shareholder
  17. USE OF DIVIDENDS IN BOOTSTRAP SALES
    1. Corp is going to sell sub
    2. pays dividend up & takes div rec deduction
    3. sells its stock
    4. is dividend up really part of sales price?
      1. court in TSN Liquidating holds no, merely moved up the assets they wanted to keep.

    CHAPTER 5—REDEMPTIONS & PARTIAL LIQUIDATIONS
  18.   INTRODUCTION 302; 317b
    1. Redemptions and partial liquidations are distributions of property in exchange for stock (as opposed to dividends) essentially a sale of stock to Corp
    2. 302 governs the tax treatment of redemptions
    3. 302b provides that exchange (capital gain) treatment will be available if one of 4 tests are met
      1. first 3 tests are shareholder level tests
      2. final test is a corporate level test—302b4 partial liquidation
    4. if none of the 302b tests are met, the dist. is taxed as a div. under 301
    5. Remember that 311 governs the corp's treatment of a dist of appreciated property—under 301 or 302
      1. recognizes gain
      2. does not recognize loss
  19. CONSTRUCTIVE OWNERSHIP OF STOCK 302c1; 318
    1. Under 302b1-3 the test involves a reduction in stockholdings
    2. Constructive ownership of related parties shares applies under 318
    3. Types of attribution
      1. Family attribution
        1. spouse, children, grandchildren & parents
        2. but not siblings & in-laws
        3. not from a grandparent to grandchild
      2. Entity to Beneficiary
        1. stock owned by partnership or estate is attributed to partner/bene pro-rata
        2. stock owned by a trust is allocated to benes based on actuarial interest in trust (life interest vs. remainderman)
        3. stock owned by a grantor trust is attributed to grantor
        4. stock owned by a corporation is attributed pro-rata to a 50% or more SH
      3. Beneficiary to Entity
        1. stock owned by partner or bene of estate is attributed to partnership or estate
        2. stock owned by bene of a trust is attributed to trust unless interest is remote & contingent
        3. grantor trust are considered to own stock of grantor
        4. stock owned by 50% or more SH of Corp is attributed to Corp
      4. Options attributed to their holder
    4. Operating rules of 318a5
      1. chain attribution allowed
        1. from parent to child to child's trust, for example
      2. no double family attribution
      3. no sideways attribution
        1. from bene, ptr, etc to entity to another bene, ptr, etc
  20. REDEMPTION TESTED AT SHAREHOLDER LEVEL
    1. Substantially Disproportionate Distributions 302b2
      1. Three tests
        1. after redemption SH owns less than 50% of total voting power
          1. actual & constructive ownership considered for all 3 tests
        2. % of voting stock owned by SH after redemption must be less than 80% of voting stock owned before redemption
        3. % ownership of all common stock must be less than 80% of the % owned before the redemption
          1. if more than one class of common, use FMV
      2. If there is a plan (not even written) testing may be after the end of a sequence, not after the sole redemption to impact TP RevRul 85-14
    2. Complete Termination of Interest 302b3&c
      1. but attribution rules apply
      2. Under 302c2, TP can waive family attribution if
        1. retains no interest other than as a creditor
          1. can't be shareholder, employee, director, etc.
        2. 10 year forward ban on such interests
        3. must meet 10 year lookback—no waiver if in past 10 years
          1. TP acquired stock from 318 relative
          2. 318 relative acquired stock from TP
          3. except if tax avoidance was not principal purpose of stock exchange
    3. Redemption not Essentially Equivalent to a Dividend 302b1
      1. facts & circumstances test
      2. in US v. Davis, USSC held that 302b1 requires a meaningful reduction of the shareholder's proportionate interest in the corporation
        1. Treasury in RevRul 75-502 holds that interest must at least drop to 50%, i.e. no control
      3. in RevRul 75-512 trust after redemption has 318 attribution—no waiver of beneficiary to entity attribution
      4. in RevRul 85-106 IRS finds no reduction when only preferred is redeemed
      5. in RevRul 78-401 IRS finds that no significant reduction occurs when majority SH's voting power drops below the super-majority level required for certain corporate action when such action is not imminent
      6. family discord—can you ignore 318 in a 302b1 case?
        1. probably not, but make the argument
        2. one option is to argue that a meaningful reduction has taken place because of family hostility, even thought 318 keeps % high
  21. REDEMPTION TESTED AT CORPORATE LEVEL—PARTIAL LIQUIDATIONS 302b4
    1. 302e1 defines partial liquidations
      1. pursuant to a plan
      2. occurs within the taxable year in which the plan is adopted, or the succeeding tax year
      3. and is not essentially equivalent to a dividend
        1. same language, not the same focus as 302b1
        2. so even a pro-rata redemption can qualify here (never could under 302b1)
        3. corporate contraction standard of 302e2
          1. qualified trade or business
            1. either distributed or terminated
          2. another qualified trade or business continues
          3. qualified trade or business
            1. actively conducted for 5 years prior to distribution date
            2. was not acquired by purchase in that period
    2. It is possible to qualify under 302e1 when no stock is surrendered, so called constructive redemptions.
    3. Distributions to corporate shareholders do not qualify
      1. S-corps are treated as individuals
      2. must look through partnerships, estates, trusts to see if any corp.
      3. by definition any amount treated as a dividend under 301 is an extraordinary dividend to a corp. shareholder
      4. RevRul 79-184—sale by parent of sub stock & dist of proceeds was not a partial liquidation. Taxed under 301
  22. CONSEQUENCES TO THE CORPORATION
    1. Distributions of Appreciated Property 311
      1. 311b is the statutory repeal of General Utilities
        1. Corp distributing appreciated property always recognizes gain
      2. 311a still provides that Corp may not recognize loss upon distribution
    2. Effect on Earnings & Profits 312n7
      1. if the redemption is a 301 event—
        1. Corp adjusts E&P for cash & greater of basis or FMV of prop dist
      2. if redemption is an exchange under 302 or 303—
        1. E&P is reduced by some amount up to the amount of the distribution in redemption
        2. share of E&P allocated to stock redeemed
          1. no E&P allocated to non-convertible preferred stock
          2. differences in preferences in div & liquidating dist must also be considered
    3. Stock Redemption Expenses 162k
      1. amounts paid to acquire stock must be capitalized
      2. expenses paid by Corp to acquire its own stock are non-amortizable capital items
      3. but loan expenses to buy-back stock are amoritzable if the interest is deductible
  23. REDEMPTION PLANNING TECHNIQUES
    1. Bootstrap Acquisitions
      1. Zenz v. Quinlivan-a shareholder who, as part of an overall plan to terminate her interest in a Corp, sells some stock to a third party and has the remainder redeemed. Holding—received a payment for exchange of stock not a dividend
      2. RevRul 75-477 % of stock held before event is % held before any part of the transaction takes place. % of stock held after the event is % held after all transactions
    2. Buy-Sell Agreements 101 264 2703
      1. excerpt from article on page 234
      2. buy-sell may still help set value of stock at SH death if unrelated parties
      3. constructive dividend issues—
        1. what if Corp redeems stock that other SH was obligated to buy
            1. constructive dividend to sh who should have bought?
              1. no, unless
                1. primary obligator, continuing SH is not subject to an existing primary and unconditional obligation to perform
      4. Arnes v. US—Transfer of stock incident to divorce settlement to corp. One court holds TP H is not subject to unconditional obligation to buy W's stock, so corp's acquisition of such stock is not income to H. Another Corp ruled that cash to W was not income as a redemption, but was a sale incident to a divorce & thus was tax free. Deemed sale to H. Book says IRS got whipsawed, no way to reconcile cases.
    3. Charitable Contributions & Redemptions
      1. Grove. v Comr. T donates stock to charity that redeems it. Constructive dividend to T? No says court.
      2. RevRul 78-197, IRS says it won't fight this any more
  24. REDEMPTIONS THROUGH RELATED CORPORATIONS 304
    1. TP tries to qualify for LTCG by selling stock in one Corp to another controlled corp.
    2. 304 is designed to prevent this
    3. Brother Sister Acquisitions
      1. One or more persons
      2. who are in control of each of two corps
        1. control is at least 50% of either voting power or total value of all classes of stock
      3. transfer stock of one Corp (issuing Corp)
      4. to another Corp (acquiring Corp)
      5. in exchange for cash or property
      6. TP is treated as having a deemed redemption of acquiring Corp stock
        1. tested under 302b
        2. taxed as a dividend to extent of acquiring Corp
          E&P first then extent of issuing Corp E&P next
    4. Parent Subsidiary Acquisitions
      1. 304a2 applies
      2. parent sub group requires only 50% control
      3. parent sub rules take precedence over brother sister
      4. if sub receives stock in parent from SH
        1. deemed redemption of parent's stock
        2. E&P of sub first then of parent
    5. see page 267 for collateral issues
  25. REDEMPTIONS TO PAY DEATH TAX 303
    1. Special Rule if decedent owned close business—can redeem stock as a sale (usually with 0 gain/loss) in order to pay death taxes
      1. stock must be in decedent's estate & must make up 35% of the estate
      2. special rule if two or more corps owned
        1. include wife's stock in some calcs
        2. decedent must own 20% of the stock
          1. only 20% not 35% required if two or more corps involved

     

    STOCK DIVIDENDS 
  26. INTRODUCTION
    1. collateral tax consequences depend on whether distribution is taxed to SH
      1. taxable distributions are governed by 301
        1. amount of distribution is FMV of stock
        2. SH takes FMV as basis
        3. holding period runs from date of distribution
        4. distributing corp recognizes no gain
        5. E&P is reduced by FMV of distributed stock
      2. tax free distributions under 305
        1. SH must allocate basis in old stock to new
        2. holding period of old is tacked to new
        3. Corp has no gain or loss
        4. Corp has no change to E"&P
    2. 305 also governs distributions of warrents, see also 307
  27. TAXATION OF STOCK DIVIDENDS UNDER SECTION 305
    1. 305b1—taxable if it is payable in property rather than stock at the election of any SH
    2. 305b2—if some SH receive stock they may be taxed if
      1. other SH receive cash or other property
      2. and, there is an increase in the proportionate interests of SH who did nto get property in assets or E&P of the corp
        1. ie those SH who got stock got a increase in their ownership %
        2. example—two classes of common, one pays cash div, one pays stock
          1. SH is taxable on stock div.
        3. but if corp has class of common & class of preferred & makes cash dist on preferred and stock dist on common
          1. no tax to SH of common who got additional common—their interest in the assets of corp upon liquidation does not change
          2. because preferred stock has set value in liquidation
          3. and they already owned all the common
        4. convertible securities such as debentures are treated as stock
          1. so a stock div to SH that reduces % security holders would get could be taxable
          2. but needs dist to security holders—interest on security counts!
        5. consider each class of stock seperately
    3. 305b3—if some common SH receive preferred stock div & some receive common stock div—then all are taxed
    4. 305b4—distributions of stock with respect to preferred stock are taxed
  28. SECTION 306 STOCK
    1. The Preferred Stock Bailout
      1. Chamberlin v. Comr.—issuance of preferred stock is not taxed simply because said stock is redeemable
        1. corp issued preferred stock
        2. SH sold same to insurance companies
        3. insurance companies redeemed such stock over 7 years
        4. SH got capital gains—bailed out E&P
      2. 306 is the legislative response to Chamberlin
    2. The Operation of Section 306
      1. 306 stock defined
        1. preferred stock
        2. distributed to common shareholders
        3. by a corporation with E&P
        4. also includes
          1. 306 stock given to you
          2. stock received for 306 stock in a 351 exchange
          3. some stock in a reorg (ie preferred stock received by target SH)
          4. stock received in exchange for 306 stock in a reorg
      2. no tax upon the issuance of 306 stock
      3. SH has ordinary income when 306 stock is sold or redeemed
        1. for a sale, the ordinary portion is the amount that would have been a dividend if cash had been distributed instead of stock
        2. for a redemption, the ordinary portion is tested at the time of the cash distribution
      4. transactions that are not distributions of 306 stock
        1. SH who sells all stock including 306, and has no 318 attribution
        2. 302b3 or 4 complete terminations or partial liquidations
        3. complete liquidations
        4. 351 transactions
        5. no tax avoidance in the plan
          1. Fireoved v. US discussion of tax avoidance motives
            1. SH redeemed 306 preferred stock
            2. but had sold some common
            3. court forced a pro-rata portion of preferred into 306
              4.

    LIQUIDATIONS 
  29. INTRODUCTION
    1. When the corporation ceases to be a going concern, and its activities are merely for the purpose of winding up its affairs, paying debts, and making final distributions to SH
    2. Liquidation under state law is not necessary
    3. May involve a sale of all or most of Corp.'s assets
  30. COMPLETE LIQUIDATIONS UNDER SECTION 331
    1. Consequences to the Shareholders 331, 334, 346
      1. amounts received in complete liquidation are treated as full payment for SH stock
      2. amount received is FMV of property distributed net of liabilities assumed
      3. gain/loss is difference between basis and amount received
        1. there is an issue if liquidation occures over time as to when to recognize basis
          1. case law approach—realize all of basis first
          2. IRS view 453 applies, you get installment sale treatment
      4. basis in assets received is their FMV
        1. liabilities assumed don't reduce basis, since we assume SH has to pay them out of personal funds
      5. most SH get CG treatment
      6. if Corp. sells assets and distributes installment note to SH
        1. SH may, if technical requirements are met, be able to defer its gain over term of installment note
          1. 12 month period
          2. inventory etc. only if a bulk sale
    2. Consequences to the Liquidating Corporation
      1. Background
        1. Comr. v. Court Holding Co.
          1. This was old law
          2. substance over form
          3. Co distributed its sole asset, SH then sell it
          4. Court taxes Corp on the sale
        2. U.S. v Cumberland Public Service Corp
          1. still old law
          2. Here SH were able to avoid gain
      2. 1986 Act changes the whole thing—336a now the reverse of 1954 Act
        1. liquidating company now recognizes gain or loss on distribution of assets in liquidation
        2. distribution is FMV of assets distributed
        3. if liabilities are assumed by SH, deemed sales price is no less than amount of liabilities
      3. liquidating corp also recognizes gain upon the sale during a liquidation
      4. Two limits on loss recognition
        1. no loss shall be recognized by a Corp on a dist to a 267 related person if
          1. the distribution is not pro-rata among SH
          2. The distributed property was acquired in a 351 exchange w/in 5 yrs of the dist date
          3. 336d1Aii extends this rule to pro rata distributions of disqualified property (basically acquired in a 351 event)
  31. LIQUIDATION OF A SUBSIDIARY 332;334;1223(1)
    1. Consequences to the Shareholders
      1. Section 332 provides that parent recognizes no gain or loss upon liquidation of 80% controlled subsidary
        1. transferred basis under 334b1
        2. E&P and other tax attributes are inherited 381a1
      2. Subsidiary must distribute property to parent in complete cancellation or redemption of its stock
        1. 332b1 parent must own at least 80% of the voting stock & total value of the subsidiary's stock
          1. from the date of adoption of the plan
          2. and at all times until final distribution
        2. 332 timing rules
          1. one shot—all assets distributed in one tax year (even if plan adopted in earlier year)
          2. extended—plan must provide that final dist takes place within 3 years after the close of the first tax year a distribution was made
      3. Consequences to minority SH—331a full double tax applies
    2. Consequences to the Liquidating Subsidiary
      1. 337 liquidating subsidiary does not recognize gain or loss on distribution to parent
        1. provided 332 applies
      2. distributions to minority SH treated as non-liquidating redemption
        1. so subsidiary recognizes gain, but not loss on dist. to minority SH 336d3
      3. Transfer of asset to satisfy debt of sub to parent
        1. 337b1 states that any transfer of property to satisfy a debt is part of general non-recognition rules of 337a (could have recognized losses since use of property to satisfy a debt is generally a taxable event.)

    SUBCHAPTER S
  32. INTRODUCTION
    1. C Corp has Pure Double Tax
    2. P'ship, LLC, etc. do not
    3. S Corp allows Liability Protection & State Law Benefits of Corp
      1. with taxation similar to partnership
    4. Original Subchapter S Rules were not close to Partnership Rules
      1. 1982 Act Reformed the rules
      2. 1996 Act Modified them again
    5. Small Business Corp Defined in 1361(b)
    6. Partnership Rules Still have Some Differences
      1. Basis rules differ
      2. Partnerships can have special allocations of income
  33. ELIGIBILITY FOR S CORPORATION STATUS
    1. 1361(b)
      1. domestic corporation
      2. not ineligible
      3. no more than 75 SH
      4. Only individuals, estates, trusts, pension trusts, and 501(c)(3)'s
      5. No non-resident alien SH
      6. Only one class of stock
    2. What is an ineligible corporation?
      1. banks & insurance companies 1361(b)(2)
      2. once applied to prevent affiliated groups
        1. now subsidiaries are allowed
          1. qualified 100% owned S Corp sub 1361(b)(3)(B)
    3. How do You Count SH's?
      1. Husband, Wife & their estates are 1 SH 1361(c)(1)
    4. What SH are not Allowed?
      1. C-Corp
      2. Partnership
      3. Ineligible Trust
      4. Non-Resident Alien
    5. What Types of Trusts are Eligible
      1. Voting 1361(c)(2)(A)(iv)&(B)(iv)
      2. Grantor Trusts 1361 (c)(2)(A)(i)
      3. Former Grantor Trusts for 2 Years After Grantor's Death (Estate is counted as the SH) 1361c2Bi
      4. Testamentary Trusts for 2 Years1361c2Aiii
      5. QSST's 1361c2Biii
        1. must distribute income
        2. only 1 US citizen or resident beneficiary
        3. must make an election
        4. note QTIP trust may be a QSST
      6. ESBT
        1. all Bene's must be eligible SH (indiv, estates, or charitable contingent remaindermen) 1361e1Ai
          1. CRT won't qualify
        2. Interest must not have been purchased 1361eAii
        3. Must elect 1361eAiii
        4. Each possible bene is counted towards the 75 1361c2Bv
    6. One Class of Stock
      1. can have voting & non-voting common
  34. ELECTION, REVOCATION AND TERMINATION
    1. All shareholders must consent to the election
    2. All shareholders in the pre-election period must consent, even if no longer SH on date of election
    3. Election made up to 15th day of the 3d month is effective as of day 1 of the year
      1. Election after that date is effective as of the first of the next year
      2. new corp has 75 day rule
    4. Election may be revoked if SH holding more than ½ the stock consent
      1. may specify a prospective date
      2. 15th day of 3rd month rule applies here
    5. Termination occurs if
      1. corp ceases to be a small business corp
        1. >75 SH
        2. 2d class of stock
        3. ineligible SH
        4. effective as of date of event
      2. excessive passive investment income
        1. 3 years the corp pays the tax
        2. tax applies if
          1. passive income
          2. c Corp E&P
        3. effective as of first day of year following 3rd year
    6. Tax year
      1. generally calendar year
      2. 444 election to use sept, oct or nov
      3. natural business year
  35. TREATMENT OF THE SHAREHOLDERS
    1. S Corp items pass through to SH
    2. 1366a1A provides that items that might have a different effect must be seperately stated
      1. 179
      2. Charitable Cont
      3. Capital gains & losses
      4. portfolio income
      5. passive activities
      6. etc.
    3. non seperately stated items are aggregrated & pass out as ordinary inc
    4. 1366d limits losses to SH's basis
    5. debts from SH to corp give him basis
      1. disallowed losses are a CF item forever
    6. Basis is adjusted for income & loss items & distributions
      1. generally made at the end of the year
      2. adjsutments are made with respect to disposed of stock at disposal date
    7. Losses may be limited due to at risk rules or passive activity rules
  36. DISTRIBUTIONS TO THE SHAREHOLDERS
    1. If there is no E&P
      1. first distributions are a return of capital
      2. then you have stock sale income
    2. IF there is E&P
      1. first AAA
      2. then E&P
      3. then recovery of basis
      4. then stock sale income
    3. S-corp that distributes appreciated property must recognize gain
      1. gain passes out to SH
        1. SH takes FMV in assets dist
  37. TAXATION OF THE S CORPORATION
    1. 1374 tax on BIG
    2. Tax on passive income
  38. COORDINATION WITH SUBCHAPTER C
    1. S rules override C rules
    2. but C provisions generally apply to S's
  39. TAX PLANNING WITH THE S CORPORATION
    1. Compensation Issues
    2. Family Income Splitting
 

This website is maintained by John Robertson.  Contact me at jfrobert@astate.edu

This page was last modified on 04/24/2007