Federal Income Taxation of Corporations and Stockholders in a Nutshell
Author:
Burke, Karen C.
Edition:
7th
Copyright Date:
2014
23 chapters
have results for Federal Income Taxation of Corporations and Stockholders in a Nutshell
Title Page 6 results (showing 5 best matches)
Half Title 2 results
Preface 3 results
- The Seventh Edition retains the essential structure of its predecessors. Chapter 1 introduces several fundamental issues in the taxation of corporations and stockholders, and Chapter 2 focuses on the corporation as a taxable entity. Chapters 3 through 7 track the corporate life cycle from incorporation through complete liquidation, including nonliquidating distributions, redemptions and stock dividends. Chapters 8 through 11 address more advanced problems in corporate taxation, including taxable acquisitions, tax-free reorganizations and corporate divisions, and carryover of corporate tax attributes. Chapter 12 provides an overview of the taxation of S corporations.
- This work is intended to introduce students to the basic structure of corporate taxation. Students interested in pursuing specific topics in greater detail should consult the leading treatises on corporate taxation.
- The basic principles of corporate taxation have proved remarkably durable, despite ongoing statutory and regulatory changes. As reflected in the Sixth edition of this work, Congress in 2003 enacted temporary legislation subjecting capital gains and qualified dividends to the same low tax rates (15%). In 2012, Congress enacted legislation intended to make permanant the 2003 changes, while modestly increasing the maximum capital-gain rate to 20%. If the rate parity between capital gains and dividends indeed proves permanent, it will significantly alter the traditional relationship between corporate and individual taxes. The future structure and role of the corporate tax remains uncertain, particularly in light of proposals to significantly reduce the maximum corporate tax rate while maintaining or even increasing the maximum individual tax rate. In any case, the present edition has been completely revised to reflect developments in the Code, Regulations and case law through October 2013.
- Open Chapter
Chapter 12. Subchapter S 136 results (showing 5 best matches)
- Subchapter S (§§ 1361–1379) is intended to minimize federal income tax considerations in deciding whether to conduct a business in the form of a corporation, partnership or other entity. A corporation that elects Subchapter S treatment (an “S corporation”) is roughly comparable to a partnership for federal income tax purposes: in each case, the entity’s income (whether or not actually distributed) and losses generally pass through directly to shareholders, without being separately taxed at the entity level.
- Generally, an S corporation is treated as a conduit, and is not subject to corporate-level tax except for special taxes imposed under §§ 1374 and 1375. Taxable income of an S corporation, which flows through to the shareholders, is computed in the same manner as that of an individual with certain modifications. § 1363(b). An S corporation is not allowed a deduction for charitable contributions; instead, the charitable deduction passes through to the S shareholders, subject to the charitable contribution limitations under § 170(b)(1). §§ 1363(b)(2), 1366(a)(1). In addition, an S corporation is not entitled to a dividends-received deduction under § 243. This result is appropriate since dividends paid to an S corporation do not give rise to corporate-level taxation.
- An S corporation’s income or loss flows through to a shareholder in his taxable year in which (or with which) the corporation’s taxable year ends. § 1366(a). For example, if the S corporation’s first taxable year begins on February 1, 2014 and ends on January 31, 2015, an individual shareholder will report income for that period in his individual return for calendar year 2015. In effect, the corporation’s fiscal year permits a deferral of tax at the shareholder level on the first 11 months of the corporation’s income.
- Under § 1374(b), the built-in gain tax is imposed at the highest corporate rate on the corporation’s “net recognized built-in gain” (NRBIG), reduced by certain net operating loss carryforwards and capital loss carryforwards. § 1374(b)(1), (d)(2). An overall limitation restricts the amount of the NRBIG to the “net unrealized built-in gain” (NUBIG), , the excess of the aggregate fair market value of all of the corporation’s assets over the aggregate adjusted basis of the corporation’s assets at the time of conversion from C to S status. § 1374(c)(2), (d)(1). For example, if a corporation has unrealized built-in gains of $100 and unrealized built-in losses of $60 on the conversion date, only the NUBIG of $40 is subject to tax under § 1374. Thus, the appreciation (or depreciation) in assets purchased after the conversion date and subsequent appreciation (or depreciation) in existing assets is generally not subject to the § 1374 tax. ...(4) (defining recognized built-in gains and losses)...
- The distribution rules are considerably more complex if an S corporation has accumulated e & p from its previous existence as a C corporation. Under § 1368(c)(1), a distribution from an S corporation with accumulated e & p is treated the same as a § 1368(b) distribution (basis recovery or gain from a sale or exchange) to the extent of the S corporation’s “accumulated adjustments account” (AAA). The AAA represents essentially the undistributed net income of the S corporation; it is a corporate-level account which begins at zero and is adjusted for the S corporation’s income or loss in a manner similar to the basis adjustments of § 1367. § 1368(e)(1)(A). Reg. § 1.1368–2. Unlike basis adjustments, however, the AAA is not increased by tax-exempt income and may be reduced below zero. If the AAA is reduced below zero, it must first be restored to a positive balance before tax-free distributions may be made to shareholders. Any distribution in excess of the AAA is taxed as a dividend to...
- Open Chapter
Chapter 1. Introduction 74 results (showing 5 best matches)
- Several proposals have been advanced for “integrating” the treatment of corporations and shareholders in order to eliminate or reduce the burden of the double tax. Indeed, in 2003 dividend relief emerged as an alternative to more ambitious proposals that would have abolished double taxation of corporate income. Under these proposals, dividend income would have been exempt from shareholder-level taxation to the extent paid out of income previously taxed at the corporate level. Like the Treasury’s 1992 integration proposals, the goal was to ensure that corporate income is taxed once and only once, regardless of whether such income is distributed or retained. Currently, corporate-shareholder integration appears to have little political support; instead, reform proposals focus primarily on reducing corporate tax rates and broadening the corporate base.
- Taxing dividends at a lower rate mitigates but does not eliminate the burden of double taxation of distributed corporate earnings. For example, assume that a corporation earns income of $100 which is taxed at 35%. After payment of corporate tax of $35, the corporation has only $65 available for distribution. Assume that the maximum individual tax rate is 39.6%. If dividends are taxed as ordinary income (and not as a qualified dividend), an individual shareholder in the highest tax bracket would pay a tax of $25.75 on the distribution. The maximum aggregate tax burden would thus be $60.75 if the corporation’s after-tax earnings were distributed as a dividend.
- Subchapter C is premised on double taxation of distributed corporate earnings. A corporation is taxed as a separate entity on its taxable income, and shareholders are taxed on distributions of the corporation’s after-tax earnings. Prior to the Tax Reform Act of 1986 (the “1986 Act”), corporate tax rates had historically been significantly lower than individual tax rates. Since 1986, the maximum corporate tax rate (now 35%) has generally been at least as high as the maximum individual tax rate. The prevailing relationship between individual and corporate tax rates curtails the benefit which existed under pre-1986 law of sheltering income within the corporation.
- A form of full integration is already available in the case of so-called “S corporations,” , certain corporations having a limited number of shareholders and simple capital structures. Chapter 12. Subchapter S of the Code offers small business entities an alternative to the double tax system without sacrificing the non-tax advantages of doing business in corporate form. In the case of electing corporations, both distributed and undistributed corporate earnings are generally taxed only at the shareholder level. Thus, Subchapter S reflects the policy goal that federal income tax considerations should not unduly influence the choice of business form.
- Employment taxes may be an important factor influencing the choice of business form, particularly when a shareholder-owner also provides services to the business. If an S corporation pays minimal salary to an owner who is active in the business, the S corporation’s residual income may be passed through as noncompensation income. This strategy potentially avoids both employment taxes and the § 1411 tax, subject to a challenge that the S corporation has failed to pay reasonable compensation. Chapter 12. Given the large amounts of revenue at stake, Congress may be expected curb the use of S corporations to achieve such tax minimization.
- Open Chapter
Chapter 2. Corporation as Taxable Entity 63 results (showing 5 best matches)
- Under § 269A, the Service may reallocate income or deductions between a personal service corporation and its employee-owners. Thus, § 269A sidesteps the issue of whether the rendering of services by an employee is a separate trade or business. This provision, however, applies only to a narrow category of personal service corporations performing services primarily for one other entity. In addition, the principal purpose for forming or using the corporation must be avoidance or evasion of federal income tax by reducing the income of, or securing tax benefits that would otherwise not be available to, an employee-owner.
- A corporation’s taxable income is taxed at the following graduated rates under § 11: 15% on the first $50,000, 25% on the next $25,000, 34% on the next $9,925,000, and 35% on taxable income in excess of $10,000,000. The benefit of the 15% and 25% rates is phased out by a 5% surtax on taxable income between $100,000 and $335,000. The maximum surtax liability—5% of the amount of taxable income in the $235,000 phase-out range ($335,000 less $100,000), or $11,750—is exactly equal to the difference between a flat 34% tax on $75,000 ($25,500) and the tax imposed at the 15% and 25% rates ($13,750). Thus, a corporation with taxable income between $335,000 and $10,000,000 pays tax at an effective (as well as marginal) rate of 34%. The benefit of the 34% rate is phased out by a 3% surtax on taxable income between $15,000,000 and $18,333,333, producing a maximum additional surtax of $100,000 (3% of $3,333,333). As a result, corporate taxable income over $18,333,333 is subject to an effective (...
- Section 199 exempts from taxation a specified percentage of the taxpayer’s net income from “qualified production activities.” § 199(a). This provision was intended as a trade-off for the elimination of U.S. export subsidies that had drawn international sanctions. When fully effective (in 2010), the § 199 deduction is equivalent to roughly a three percentage point reduction in the effective corporate tax rate (from 35% to 32%). Qualified production activities income taken into account for purposes of § 199 is limited to the taxpayer’s taxable income for the year and the deduction is further limited to 50% of qualifying wages. § 199(b). In computing the § 199 deduction, taxpayers must allocate gross receipts and related costs (including general overhead expenses) between qualified and nonqualified activities. The deduction is not limited to domestic manufacturing corporations but also benefits passthrough entities such as partnerships and S corporations.
- The gross income of a corporation is defined under § 61 in much the same manner as that of an individual, and corporate taxable income is determined under § 63(a) by subtracting allowable deductions from gross income. Corporations may deduct their ordinary and necessary business expenses under § 162 and interest expense under § 163. Corporations are also allowed deductions for security and debt losses under §§ 165 and 166. Corporate net operating losses are deductible subject to the 2-year carryback and 20-year carryforward provisions of § 172. Section 291 imposes special limitations on the tax benefits available to a corporation from specified “preference items,” such as the unrecaptured portion of accelerated depreciation deductions on certain real property under § 1250. The passive loss limitations of § 469 do not apply to corporations (other than certain closely held corporations and personal service corporations). § 469(a)(2), (j)(1), (2). In the case of an S corporation, the...
- If the personal holding company provisions apply, § 541 imposes tax at a flat 20% rate, in addition to the regular corporate tax, on “undistributed personal holding company income,” defined in § 545 as taxable income for the year with certain adjustments minus the dividends-paid deduction described in § 561. The adjustments to taxable income under § 545 include allowances for regular federal taxes and net capital gains (less taxes allocable thereto), as well as a disallowance of the § 243 dividends-received deduction. § 545(b). Thus, if a closely held corporation’s sole annual income consists of $30,000 of fully deductible dividends, it will generally be a personal holding company subject to the § 541 tax unless it distributes all of its income to its shareholders each year.
- Open Chapter
Chapter 10. Corporate Divisions 81 results (showing 5 best matches)
- Section 355 permits a tax-free division of a corporate enterprise into two separate corporations, each owned by shareholders of the original corporation. A § 355 transaction may take the form of a “spin-off”, a “split-off” or a “split-up.” A spin-off consists of a distribution by a corporation to its shareholders of stock in a controlled subsidiary; by analogy to a dividend, the shareholders of the distributing corporation do not surrender anything in exchange for the distributed stock. A split-off is identical to a spin-off, except that the shareholders of the distributing corporation surrender part of their stock in the distributing corporation for stock in the controlled subsidiary; in this respect, a split-off is analogous to a redemption. In a split-up, the distributing corporation distributes stock in two or more controlled subsidiaries to its shareholders in complete liquidation. Although each of these three patterns may qualify as a tax-free division under § 355, the form of...
- The three types of qualifying transactions have several elements in common. First, the distributing corporation must be in “control” of at least one subsidiary (“controlled corporation”) immediately before the transaction. § 355(a)(1)(A). Control means ownership of stock possessing at least 80% of the total voting power and at least 80% of the total number of shares of all other classes of stock. § 368(c). The controlled corporation may be either a preexisting or a newly-created subsidiary. Second, both the distributing corporation and the controlled corporation (or, if the distributing corporation is a holding company, each of the controlled corporations) must be engaged in the “active conduct of a trade or business” immediately after the distribution. § 355(b)(1). Third, the active business test must also be satisfied for a 5-year period preceding the transaction. § 355(b)(2). Fourth, the distributing corporation must distribute all of the stock or securities of the controlled...
- Section 355(a)(1)(B) requires that a corporate division not be used principally as a “device for the distribution of the earnings and profits” of the distributing corporation or the controlled corporation. Historically, the “device” restriction was intended primarily to prevent use of § 355 transactions to convert dividend income into capital gain. In the case of noncorporate shareholders, the device restriction is largely moot, since dividends and long-term capital gains are taxed at the same rate. If shareholders have significant stock basis, however, the device limit may still play a role. In this situation, the ability to recover basis sooner rather than later still provides an important benefit. The regulations warn that “a device can include a transaction that effects a recovery of basis.” Reg. § 1.355–2(d)(1). More significantly, a § 355 transaction that runs afoul of the device restriction may trigger corporate-level gain recognition. Whether such dire consequences should...
- Section 355 does not define the term “active business,” but the regulations provide some guidelines. A corporation is engaged in an active business if it carries on a specific group of activities for income-producing purposes, including every step in the income-earning process from such activities. Reg. § 1.355–3(b)(2). Generally, an active business requires substantial managerial and operational activities conducted directly by the corporation; activities performed by third parties such as independent contractors are not taken into account. Two types of assets that are likely to cause problems under this definition are investment assets ( stock, securities, land or other property held for investment) and owner-occupied or leased real property with respect to which the owner does not provide significant services. Mere holding of vacant real estate does not satisfy the active business requirement if the owner has engaged in no “significant development activities.” Reg. § 1.355–3(c)...
- In the absence of a § 336(e) election, the controlled corporation is not permitted to increase the basis of its assets to reflect any gain recognized by the distributing corporation under § 355(d). Thus, a second level of corporate tax may be incurred in the future when the controlled corporation sells its assets. If a § 336(e) election is made, however, the distributing corporation will recognize no gain or loss on distribution of the controlled corporation’s stock. Reg. § 1.336–2(b)(2)(iii). Instead, the § 336(e) regulations treat the controlled corporation as selling all of its assets to an unrelated person and then reacquiring all of its assets from the same unrelated party. Reg. § 1.336–2(b)(2)(i), (ii). As a result of this “deemed sale to self,” the controlled corporation’s net built-in gain is fully taxed and asset basis is stepped up. The deemed sale will not cause the distribution of controlled corporation stock to fail to satisfy the requirements of § 355. Reg. § 1.336–2(b...
- Open Chapter
Chapter 4. Nonliquidating Distributions 71 results (showing 5 best matches)
- Some special considerations apply if a corporation makes a § 301 distribution of its bond or note to a stockholder. Obligations of the distributing corporation are not excluded from the broad definition of “property” in § 317(a), and are therefore treated as property. § 312(a)(2). Accordingly, both the amount of the distribution and the basis of the distributed obligation in the hands of the shareholder are equal to the fair market value of the obligation. § 301(b)(1), (d). The distribution of the corporation’s obligation, however, does not trigger gain at the corporate level under § 311(b). Finally, § 312(a)(2) requires that the distributing corporation’s e & p be reduced by the principal amount (or the issue price, in the case of an obligation having original issue discount) of the obligation. Section § 312(b) does not apply to a distribution of a corporation’s own obligation; thus, such a distribution will not increase the corporation’s e & p.
- Some items not allowed as deductions in computing taxable income are allowed in computing e & p, since they clearly reduce the corporation’s dividend-paying capacity. Thus, items disallowed by § 162(c), (f) and (g) (certain illegal payments, fines and penalties), § 265 (expenses allocable to tax-exempt income), § 1211(a) (excess capital losses over capital gains) and § 162(a)(1) (unreasonable compensation), as well as federal taxes and prior years’ dividend distributions, are subtracted in determining e & p.
- In the case of below-market demand loans, § 7872(a) recharacterizes the “foregone” interest (determined on an annual basis) as a constructive distribution from the corporation (lender) to the shareholder (borrower) and a constructive interest payment in the same amount from the shareholder back to the corporation. As a result, the shareholder is treated as having ordinary income to the extent of the constructive dividend (possibly offset by a matching interest deduction) and the corporation is treated as having interest income (with no offsetting deduction because the constructive dividend is nondeductible). Any loan that is not transferable and is conditioned on performance of substantial services by an individual is generally treated as a demand loan. § 7872(f)(5). If the loan is not a demand loan, the difference between the amount loaned and the present value of all required payments under the terms of the loan is treated as a
- Under current law, individual shareholders face a maximum rate of 20% on “qualified dividend income,” , dividends paid by domestic corporations and qualified foreign corporations. § 1(h)(11)(B)(i). Mechanically, the statute accomplishes this result by defining “net capital gain,” for purposes of § 1(h), as including qualified dividend income. § 1(h)(3), (11)(A). For other purposes, qualified dividend income remains ordinary income. Thus, if an individual shareholder has capital losses in excess of capital gains, qualified dividend income does not offset capital losses. § 1222(11) (defining net capital gain as the excess of net long-term capital gain over net short-term capital loss). Rather, the excess capital losses will be subject to the general limitations under §§ 1211 and 1212.
- The character of the corporation’s gain is presumably determined as if the distribution were an actual sale. In the case of property (other than inventory-type property) used in the corporation’s trade or business, the gain will generally be capital gain. §§ 1221 and 1231. Where property is distributed to a more-than-50% shareholder, however, § 1239(a) treats the gain recognized by the distributing corporation as ordinary income if the property is depreciable in the hands of the distributee.
- Open Chapter
Chapter 11. Carryover of Corporate Attributes 60 results (showing 5 best matches)
- The provisions of § 382 come into play only if a loss corporation undergoes a significant change of ownership. After an ownership change, § 382 limits the amount of the old loss corporation’s “pre-change losses” that may be used to offset post-change taxable income of the new loss corporation for any subsequent taxable year. The term “pre-change loss” includes NOL carryforwards that arose before the year of the ownership change, an allocable portion of the NOLs incurred during the year of the ownership change, and certain unrealized built-in losses and deductions. § 382(d), (h)(1)(B). The statute uses the terms “old loss corporation” and “new loss corporation” to refer to a loss corporation before and after the ownership change, respectively. § 382(k)(2), (3). The same corporation may be both the old loss corporation and the new loss corporation,
- A loss corporation (L) is merged into a profitable corporation (P) in a transaction which triggers § 382. Immediately before the merger, the value of L is $900 and the tax-exempt rate is 10%. The annual limit under § 382(b) will be $90 (10% of $900). To the extent that there is insufficient income to absorb the entire $90 of available losses in any year, the excess amount of the loss will be carried forward to the next year. § 382(b)(2). The higher the loss in relationship to the loss corporation’s value, the longer the period over which use of the losses will be spread.
- If § 384 applies, preacquisition losses may not be used to offset built-in gains which are recognized during the 5-year recognition period; this restriction does not apply, however, to preacquisition losses of a gain corporation. § 384(a) (parenthetical phrase). Thus, a gain corporation may use its preacquisition losses to offset its own built-in gain. Prior to the enactment of § 384, loss corporations were generally permitted to use their losses against income of an acquired profitable business, subject to the § 382 restriction that the loss corporation did not undergo a significant change of ownership. Section 384 adopts a different approach: it prevents melding of preacquisition losses and built-in gains through corporate combinations, regardless of whether the acquiring corporation has net built-in gain or loss. If both provisions apply, the § 382 limit is applied before determining the § 384 limit.
- Section 384 limits a corporation’s ability to offset built-in gains against “preacquisition losses” ( , NOLs and built-in losses) of another corporation during a 5-year recognition period following certain stock or asset acquisitions. § 384. The stock acquisition rule applies if one corporation acquires “control” of another corporation and either corporation is a gain corporation ( , a corporation with a net unrealized built-in gain at the time of acquisition). Control is defined as stock representing 80% of the voting power and value of a corporation within the meaning of § 1504(a)(2). The asset acquisition rules apply to any tax-free A, C or D reorganization if either the acquired or acquiring corporation is a gain corporation. A special rule for successor corporations ensures that the § 384 limitation remains applicable if one corporation is liquidated tax free into another corporation under § 332. Section 384 does not apply if both corporations were under common control (using a...
- Section 382(h) provides rules concerning built-in gains and losses that accrued prior to an ownership change but are recognized subsequently. As discussed below, built-in gains that reflect pre-change economic income generally increase the § 382 limitation when recognized. Similarly, § 382 limits built-in losses on the theory that such losses would have been subject to the limitation if recognized prior to the ownership change. In identifying built-in items, taxpayers may use the rules of § 1374 (the built-in gains tax for S corporations) or § 338. IRS Notice 2003–65.
- Open Chapter
Chapter 6. Stock Dividends 67 results (showing 5 best matches)
- X Corp. has two classes of stock outstanding, Class A common stock and Class B preferred stock. X distributes preferred stock to the Class A stockholders and common stock to the Class B stockholders. The distribution of common stock on the preferred stock held by the Class B stockholders is taxable under § 305(b)(4). The distribution of common stock to the Class B stockholders is therefore treated as a distribution of “property” for purposes of § 305(b), and the distribution of preferred stock on the Class A common stock increases the proportionate interest of the Class A stockholders in the assets and earnings of X. § 305(b)(2). Accordingly, the distribution to the Class A shareholders is taxed under § 305(b)(2).
- A distribution of common stock to some common stockholders and preferred stock to other common stockholders is taxable under § 305(b)(3). A § 305(b)(3) distribution, like a § 305(b)(2) distribution, alters the proportionate interests within the class of common stockholders. Technically, a § 305(b)(3) distribution might fail to meet the accompanying distribution test of § 305(b)(2), however, because the definition of “property” under § 317(a) excludes stock of the distributing corporation. Section 305(b)(3) overcomes this technical difficulty by providing specifically for the taxability of such distributions.
- Under § 305(c), certain transactions are treated as distributions of property to shareholders, even in the absence of an actual stock dividend, if they increase the proportionate interest of any shareholder in earnings or assets of the corporation. The transactions covered by § 305(c) include: a change in conversion ratio or redemption price, a difference between redemption price and issue price, a redemption treated as a § 301 distribution, and any transaction (including a recapitalization) having a similar effect on the interest of any stockholder. A “deemed distribution” is taxable under § 305(c) if it has a result described in § 305(b)(2) to (5). Reg. § 1.305–7(a).
- The exception under § 305(b)(4) for certain adjustments in the conversion ratio of convertible preferred stock permits tax-free adjustment of conversion ratios in order to avoid dilution of the preferred stockholders’ proportionate interests. The Service has held that the anti-dilution exception is limited to changes in conversion ratios, and does not apply to an actual distribution on preferred stock. Thus, if a corporation distributes common stock to holders of its convertible preferred stock to compensate for a stock dividend on common stock into which the preferred stock is convertible, the Service has ruled that the preferred stockholders are taxed under § 305(b)(4), even if the distribution has the same effect as a change in conversion ratios (which could be accomplished tax free). Rev. Rul. 83–42.
- It is important to note that redemptions of § 306 stock are treated differently from other dispositions. In a disposition other than a redemption, dividend treatment is determined by reference to the corporation’s e & p at the time the § 306 stock was originally distributed to the shareholders; by contrast, in a redemption it is necessary to look at the corporation’s e & p at the time of the redemption. Moreover, § 306(a)(1) (dispositions other than redemptions) limits the amount of ordinary income to the shareholder’s ratable share of e & p, but § 306(a)(2) (redemptions) contains no similar limitation. Thus, a redemption results in dividend treatment to the full extent (not merely a ratable portion) of the corporation’s e & p.
- Open Chapter
Chapter 3. Incorporations 125 results (showing 5 best matches)
- Several Code provisions also limit the benefits of sale treatment. Section 1239 treats any gain from sale of property between related parties ( a corporation and a more-than-50% shareholder) as ordinary income if the property is depreciable in the hands of the related transferee. § 1239(a). Moreover, § 453(g) generally requires that gain be recognized immediately in the case of an installment sale of depreciable property between related parties; the purchaser’s basis in the acquired property is not stepped up until the gain becomes includible in the seller’s income. § 453(i) (requiring recognition of any recapture income under § 1245 or § 1250). In addition, § 453(e) treats a subsequent sale of property received in an installment sale from a related party as a “second disposition” which triggers the installment gain to the transferor. Finally, § 267 prevents recognition of loss on a sale between a corporation and a more-than-50% shareholder.
- Section 118(a) excludes capital contributions from the gross income of a corporation. Thus, if a corporation obtains additional capital through voluntary pro rata contributions from shareholders, the contributions do not constitute gross income, even though the outstanding shares of the corporation are not increased. Reg. § 1.118–1. In the case of pro rata contributions, § 118(a) serves a purpose analogous to the nonrecognition provision of § 1032 when a corporation issues its stock for property. Section 118 also applies to contributions to capital by non-shareholders, such as property contributed by a governmental unit or civic group in order to induce a corporation to locate in a particular area. Reg. § 1.118–1. The exclusion from gross income does not apply, however, to payments for goods or services by customers or potential customers.
- A transfers two assets to a corporation in a § 351 transaction in exchange for stock worth $30,000. Asset #1 has a basis of $15,000 and a fair market value of $30,000, and is subject to a nonrecourse liability of $20,000; Asset #2 has a basis of $15,000 and a fair market value of $50,000, and is subject to a nonrecourse liability of $30,000. Under § 357(c)(1), A recognizes $20,000 of gain ($50,000 total liabilities assumed, less $30,000 total basis). If Asset #1 is a capital asset and Asset #2 is an ordinary income asset in A’s hands, $7,500 of the gain is capital gain allocable to Asset #1 ($20,000 × $30,000/$80,000) and the remaining $12,500 is ordinary income allocable to Asset #2 ($20,000 × $50,000/$80,000).
- X, a newly-formed corporation, issues 67% of its stock to A in exchange for appreciated property worth $67,000 and 33% of its stock to B in exchange for services worth $33,000. The transaction fails to qualify under § 351 since A, the only property transferor, lacks 80% control. As a result, A recognizes gain equal to the excess of the fair market value of the stock over A’s basis in the transferred property; and B recognizes $33,000 of ordinary income. If B instead transferred $3,000 of cash in addition to $30,000 worth of services, the 10% safe harbor rule would apply, and all of B’s stock (including the 30% received for services) would count toward the control requirement. Because A and B together would receive 100% of the stock, A’s transfer of appreciated property and B’s transfer of cash would be tax free under § 351(a); B would still have $30,000 of ordinary income as compensation for services. If B transferred less than $3,000 cash, B’s transfer would be considered nominal,...
- These nonrecognition provisions are accompanied by the basis provisions of §§ 358 and 362 which prescribe the basis of the stock (in the shareholder’s hands) and the basis of the transferred assets (in the corporation’s hands) generally by reference to the basis of the transferred assets in the shareholder’s hands before the § 351 transfer. Until Congress restricted transfers of built-in losses, a § 351 transfer generally resulted in duplication of basis for both gain and loss purposes; the corporation’s basis in the transferred assets was the same as the shareholder’s basis in such assets, increased by any gain recognized by the shareholder on the transfer. § 362(a). To prevent duplication of certain built-in losses, Congress modified this longstanding statutory regime, while leaving unchanged the duplication of built-in gains. § 362(e); § 6 below. Congress was concerned that taxpayers might contribute built-in loss property to a corporation in order to create two losses—one in...
- Open Chapter
Chapter 8. Taxable Acquisitions 52 results (showing 5 best matches)
- Specifically, the asset consistency rules are aimed at potential abuses related to (i) the investment basis adjustment rules under the consolidated return provisions and (ii) the 100% dividends-received deduction under § 243 for certain affiliated but nonconsolidated corporations. These anti-abuse rules are intended to preserve two levels of corporate tax when a target corporation sells an asset to a purchasing corporation and the target’s parent then sells the target’s stock to the purchasing corporation. In this situation, the target would be taxed on the gain on the asset sale, but the parent’s gain from the stock sale might otherwise escape taxation as an unintended consequence of the investment basis adjustment rules (or 100% dividends-received deduction). To curb this abuse, the asset consistency rules impose a carryover basis on the purchased asset in the purchaser’s hands, thereby preserving a potential second level of corporate tax. Since the tax at the individual... ...in...
- In Example (5) above, assume that P’s basis in its T stock is $7,000 (the same as old T’s aggregate basis in its assets). If P did not make a § 336(e) election, it would recognize $3,000 of net gain on sale of its T stock, but T’s asset basis would not be stepped up. Thus, the same $3,000 of net gain would potentially be taxed twice at the corporate level, once to P on the sale of its T’s stock and again to T on T’s sale of its assets. Section 336(e) offers relief from this potential multiple taxation of the same economic income by increasing the basis of the subsidiary’s assets in the purchaser’s hands. The relative attractiveness of either a § 336(e) or § 338(h)(10) election depends on whether P’s basis in its T stock is significantly lower than T’s basis in its assets.
- General principles may also require capitalization of expenses that provide a long-term benefit to a corporation in connection with changes in its capital structure. In (S.Ct.1992), a target corporation was required to capitalize expenses incurred in a friendly takeover, including investment banking fees and legal fees. The Supreme Court found that the expenses provided a significant future benefit and that creation of a “separate and distinct additional asset” was sufficient, but not necessary, to require capitalization. The future benefits to the target corporation included (i) significant synergies between the target’s and the acquiring corporation’s businesses, (ii) access to the “enormous resources” of the acquiring corporation, (iii) reduced shareholder-related expenses through elimination of the target’s public shareholders and (iv) administrative simplification.
- Section 338 may also be useful for a parent corporation that sells an 80%-owned subsidiary and makes a § 338(h)(10) election. A closely-related provision, § 336(e), extends the principles of § 338(h)(10) to other dispositions of subsidiary stock, including sales and distributions that do not qualify under § 338(h)(10). Together, §§ 338(h)(10) and 336(e) further the goal of preventing imposition of more than one level of corporate tax on the same economic income.
- A taxable asset acquisition may be structured as a purchase of the target corporation’s assets, followed or preceded by a liquidation of the target. These alternative methods of acquiring the target’s assets generally have equivalent tax consequences, as the following example illustrates. Assume that a target corporation (T) holds Blackacre with a basis of $400 and a fair market value of $600, as well as $50 cash; T’s sole shareholder (A) has a basis of $100 in his T stock. A purchasing corporation (P) purchases Blackacre from T for $600 and T is liquidated. For purposes of simplicity, assume T and A are taxed at flat rates of 25% and 40%, respectively.
- Open Chapter
Chapter 9. Reorganizations 136 results (showing 5 best matches)
- The receipt of anti-takeover “poison pill rights” by shareholders of the acquired corporation does not violate the “solely” requirement in a B reorganization. Typically, a poison pill gives shareholders a right to acquire additional stock of the issuing corporation (or any acquiring corporation) at a bargain price, in the event of a hostile takeover. In Rev. Rul. 90–11, the Service held that adoption of a poison pill plan did not constitute a taxable event because of the contingent nature and nominal value of the rights involved. It did not address the income tax consequences upon exercise of the rights.
- An “A” reorganization, as defined in § 368(a)(1)(A), is a merger (or consolidation) under a state (or foreign) statute. In a typical statutory merger, one corporation (the “acquiring corporation”) acquires the assets of another corporation (the “acquired corporation” or “target”), in exchange for assumption of the acquired corporation’s liabilities (by operation of law) and for stock of the acquiring corporation; the shareholders of the acquired corporation may also receive additional consideration. The acquired corporation disappears as a legal entity, and its shareholders and creditors become shareholders and creditors of the acquiring corporation.
- If a shareholder exchanges bonds for new stock (including NQPS), the exchange is ordinarily tax free, except to the extent of any interest arrearages discharged in the exchange. § 354(a)(2)(B). If bonds with accrued market discount are exchanged for stock, such discount will carry over to the new stock received and will be taxable as ordinary income upon subsequent disposition of the stock. § 1276(c)(2). If a corporation exchanges stock for its own debt, the corporation is treated as satisfying its indebtedness with an amount of cash equal to the fair market value of the stock transferred. § 108(e)(8). Accordingly, the corporation recognizes cancellation of indebtedness income to the extent that the fair market value of the transferred stock is less than the principal amount of the indebtedness (plus any accrued but unpaid interest). If § 108(a)(1) applies, tax attributes must be reduced under § 108(b)(1).
- A transaction will qualify as a non-divisive D reorganization only if (i) the transferee corporation acquires “substantially all” of the assets of the transferor corporation and (ii) the transferor distributes any retained assets, as well as the stock and securities (and other consideration, if any) received from the transferee, pursuant to the plan of reorganization. § 354(b)(1). If these requirements are met, the transferor corporation disappears, leaving some or all of its shareholders in control of the transferee corporation. Thus, in a non-divisive D reorganization, the assets of the transferor and transferee are combined in the hands of the transferee; in this respect, a non-divisive D reorganization resembles a C reorganization. Under § 368(a)(2)(A), however, a transaction described in both § 368(a)(1)(C) and § 368(a)(1)(D) is treated exclusively as a D reorganization.
- A “B” reorganization is defined in § 368(a)(1)(B) as the acquisition of stock of one corporation in exchange solely for voting stock of the acquiring corporation (or its parent), provided that the acquiring corporation has control of the acquired corporation immediately after the transaction. “Control” means ownership of at least 80% of the total combined voting power of voting stock and at least 80% of the total number of shares of all other classes of stock. § 368(c). Although the acquiring corporation must have control immediately after the transaction, it does not matter whether the acquiring corporation gains control in the reorganization exchange or in a previous transaction (or series of transactions). Thus, an acquiring corporation owning 79% of the acquired corporation may acquire an additional 1% in a “creeping B” reorganization.
- Open Chapter
Chapter 7. Complete Liquidations 79 results (showing 5 best matches)
- The hypothetical sale requirement of § 336 eliminates the need in most cases for the government to invoke judicially-developed doctrines to ensure that a liquidating corporation does not avoid recognizing income. Under prior law, the Supreme Court applied the tax-benefit doctrine to require a liquidating corporation to recognize gain on an in-kind distribution of supplies where the corporation had already deducted the cost of the supplies in an earlier taxable year. (Tax Ct.1988) (tax-benefit doctrine does not apply to expenses deducted for materials and services which were used and consumed prior to the liquidation). Since § 336 now generally reaches this result more directly, the tax-benefit doctrine is less significant after the 1986 Act. Assignment-of-income problems may still arise, however, if a corporation has potential income that is contingent or not yet reflected under its method of accounting.
- If a corporation adopts a plan of complete liquidation which causes § 336(d)(2) to become applicable to a loss on a transaction reported in an earlier taxable year, § 336(d)(2)(C) permits the Service to “recapture” the disallowed portion of the loss in lieu of reopening the corporation’s return for the earlier year. In the above example, assume that X sells Parcel #2 for $25,000 on December 1, 2014, and reports a loss of $10,000 ($35,000 basis less $25,000 fair market value). If X then adopts a plan of complete liquidation in 2015, the $10,000 loss reported in 2014 is retroactively subject to disallowance under § 336(d)(2). Instead of reopening X’s 2014 return, the Service may require X to report an additional $10,000 of gross income in 2015.
- A liquidating corporation may distribute assets ( disputed claims or contingent contract rights) that are difficult to value with reasonable accuracy. Although the assets normally must be valued at the time of distribution, the transaction may be held “open” in “rare and extraordinary” circumstances. Reg. § 1.1001–1(a). (S.Ct.1931). The effect of open transaction treatment is to defer the reporting of all or part of the stockholder’s gain or loss. In an open liquidation, any gain or loss ultimately realized when the value of the assets becomes ascertainable will be treated as part of the capital gain or loss on the liquidation; if the transaction is treated as a closed transaction, however, any subsequent gain may be ordinary in character in the absence of a sale or exchange.
- Because § 336(a) treats a distribution in complete liquidation as a deemed sale of the corporation’s assets, gains and losses are computed separately for each asset. (2d Cir.1945). Thus, a liquidating corporation may realize capital losses from certain assets that cannot be used to offset ordinary income from other assets. This result is generally less advantageous to the corporation than if it were permitted to report its aggregate gain or loss. Indeed, the corporation may be unable either to deduct its capital losses currently or to carry them back to previous taxable years (if there were no capital gains in such years). § 1212(a)(1).
- In any sale, exchange or distribution to which § 336(d)(2) applies, the liquidating corporation is required to reduce its adjusted basis in the property, for purposes of determining the amount of loss recognized, by the amount of the built-in loss at the time of contribution. § 336(d)(2)(A). The corporation’s basis for purposes of computing depreciation and gain, however, is not affected by the downward basis adjustment. If the corporation’s adjusted basis in the loss property has not changed since the time of contribution, the § 336(d)(2)(A) adjustment will produce a stepped-down basis equal to the property’s fair market value at the time of contribution for purposes of determining the corporation’s loss.
- Open Chapter
Chapter 5. Redemptions 104 results (showing 5 best matches)
- In a recent case, the Tax Court distinguished and held that a subsidiary’s pre-sale dividend to one of its corporate parents was not part of the purchase price for the subsidiary’s stock. (Tax Ct.1993). In , the taxpayer and another unrelated corporation each owned 50% of a subsidiary; they agreed to rearrange their interests by having the subsidiary distribute cash to the taxpayer, followed by a sale of the taxpayer’s stock in the subsidiary to the other shareholder. The government argued that the cash distribution and stock sale should be treated as part of an integrated transaction. The court refused to apply the step transaction doctrine, however, noting that the taxpayer was unable unilaterally to alter the form of the transaction. It also noted that dividend treatment of the distribution was consistent with the rationale for the intercorporate dividends-received deduction, namely, to prevent multiple taxation of income at the corporate level. (Tax Ct.1987) (absence of a...
- Section 304 applies to a transfer of stock in one corporation (the “issuing corporation”) to another corporation (the “acquiring corporation”) in exchange for property, if one or more persons are in “control” of both the issuing corporation and the acquiring corporation ( , own stock possessing at least 50% of total voting power or total value). Rev. Rul. 89–57 (value test applied to aggregate value of all classes of stock). For purposes of determining control, the attribution rules of § 318(a), with certain modifications, are applicable. The 50% stock ownership requirement for corporation-to-shareholder attribution and shareholder-to-corporation attribution is reduced to 5% in each case, and the amount of stock attributed to a corporation from a less-than-50% shareholder is limited to such shareholder’s proportionate ownership. § 304(c)(3). If the two corporations are “brother-sister” corporations, the transaction is governed by § 304(a)(1); if the issuing corporation is in control...
- In order to qualify under § 303, the redeemed stock must be included in the deceased shareholder’s gross estate for federal estate tax purposes. Thus, the stock must be owned by the decedent at the time of his death or have been transferred during life in a manner that causes it to be includible in his gross estate. In addition, the value of the stock included in the decedent’s gross estate must be at least 35% of his adjusted gross estate, the value of the gross estate reduced by deductions allowable under §§ 2053 and 2054 (funeral and administration expenses, debts and losses). § 303(b)(2)(A). A special rule permits the stock of two or more corporations to be aggregated for purposes of the 35% rule, if at least 20% of the value of the total outstanding stock of each corporation is includible in the decedent’s gross estate. § 302(b)(2)(B).
- It may be more difficult to determine the proper charge to e & p if the corporation has more than one class of stock. Legal priorities between the different classes of stock must be taken into account in allocating e & p among classes of stock. Presumably, a redemption of preferred stock should not reduce e & p at all, except for any accumulated dividends, since a preferred stockholder is generally entitled only to a return of capital on liquidation.
- A redemption that fails to meet the mechanical “safe harbor” tests of § 302(b)(2) or (3) may nevertheless qualify for exchange treatment if it is “not essentially equivalent to a dividend.” Although this test is too amorphous to be used as a planning device, its contours were clarified to some extent by the Supreme Court in the case (S.Ct.1970). In a corporation redeemed preferred stock held by the taxpayer at a time when the taxpayer and his family owned all of the stock of the corporation. The corporation had originally issued the preferred stock to the taxpayer in exchange for a $25,000 capital contribution, which was necessary to increase the corporation’s working capital in order to secure a loan from a third party to the corporation. It was understood at the time of the $25,000 capital contribution that the preferred stock would be redeemed upon repayment of the loan. The Supreme Court held that the redemption did not qualify for exchange treatment under § 302(b)(1). It held...
- Open Chapter
Copyright Page 5 results
- Nutshell Series, In a Nutshell
- The publisher is not engaged in rendering legal or other professional advice, and this publication is not a substitute for the advice of an attorney. If you require legal or other expert advice, you should seek the services of a competent attorney or other professional.
- Printed in the United States of America
- © West, a Thomson business, 2003
- © 2014 LEG, Inc. d/b/a West Academic
- Open Chapter
Outline 198 results (showing 5 best matches)
Index 112 results (showing 5 best matches)
- ALLOCATION OF INCOME AND DEDUCTIONS
- See also Allocation of Income and Deductions; Dividends-Received Deduction
- See also Allocation of Income and Deductions
- See also Classification as a Corporation; S Corporations
- See also Choice of Business Entity; Classification as a Corporation; Dividend Relief; Integration
- Open Chapter
Advisory Board 11 results (showing 5 best matches)
- Professor of Law, Chancellor and Dean Emeritus, University of California, Hastings College of the Law
- Professor of Law and Dean Emeritus, University of California, Berkeley
- Professor of Law Emeritus, University of San Diego Professor of Law Emeritus, University of Michigan
- Professor of Law, Pepperdine University Professor of Law Emeritus, University of California, Los Angeles
- Professor of Law, Michael E. Moritz College of Law,
- Open Chapter
Table of Cases 8 results (showing 5 best matches)
- A.E. Staley Mfg. Co. and Subsidiaries v. Commissioner, 119 F.3d 482 (7th Cir. 1997) --------------------- 277
- H.J. Heinz Co. and Subsidiaries v. Commissioner, 77 Fed. Cl. 570 (Fed.Cl.2007) --------------------- 25, 189
- John A. Nelson Co. v. Helvering, 296 U.S. 374 (1935) --------------------- 285
- TABLE OF CASES
- Kamborian, Estate of v. Commissioner, 469 F.2d 219 (1st Cir.1972) --------------------- 67
- Open Chapter
Table of Statutes 208 results (showing 5 best matches)
- Publication Date: January 17th, 2014
- ISBN: 9780314288226
- Subject: Taxation
- Series: Nutshells
- Type: Overviews
-
Description:
This edition has been completely revised to reflect developments in the Code, regulations, and case law through October 2013. The text focuses on the corporation as a taxable entity and tracks the corporate life cycle from incorporation through complete liquidation. It includes discussion on nonliquidating distributions, redemptions, and stock dividends. It also addresses advanced problems in corporate taxation, such as taxable acquisitions, tax-free reorganizations and corporate divisions, and carryover of corporate tax attributes.
