Liquidating Distributions of Corporation

Chapter 6: Liquidating Distributions of Corporation

Motivator for Liquidation

1. Tax reason (principal motivation)
2. Business reason

Liquidation is conducted if:

1. assets are resulting to losses

            -SH prefer to hold in incorporated form and reduce to personal tax return

                        *limitations:

1. Passive activity
2. At-risk
3. Excess business loss
4. corporate earnings taxed once under the income tax of corporation
5. when earnings are distributed as dividends
6. when SH exchanges stock for gain

    *the act of liquidation = assets held to unincorporated form = avoid double tax

iii. Additionally, may claim 20% reduction for qualified business income

1. Reduce tax rate below effective tax rate on the income of the corporation

Complete Liquidation

–Under Reg. Sec. 1.332-2 (c)

• Distributions under liquidation corp. must redeem all stocks or cancel
• One or more distribution, corporation should be:

1. liquidating status
2. distribution should be under the plan

• Distribution before plan of liqidation = taxed to SH through dividends/ redeemed stocks

Dissolution

• Legal phrase that organization undertaken dissolution
• Cannot happen if corporation retains charter for name of corporation acquired by another
• Corporation can settle for tax reasons without undertaking dissolution

Liquidation

• Reg. 1.332-2(c) – Corporation termination concern and interests
• winding up its activities
• debt payment
• shareholder property distribution

Liquidation General Rules

1. Effect to Shareholders

Amount of Loss or Gain

-Under Sec. 331 (a):

            -liquidation distribution transferred to shareholder = full payment for SH stock

            – if SH acquire liabilities, then:

                        – these liabilities reduce value realized by SH

2. Accounting Method Impact

            -Accounting method, if Accrual:

1. Shareholder acknowledge loss or gain

*Cash method

1. Sharehoder report loss/gain when actual liquidating upon distribution receipt acceptance
2. Stock Acquisition

            -SH may have acquire stock in different time/ amount

                        -SH must compute G/L separately

3. Recognized Gain or Loss Character

            -Corporation stock liquidation (Capital Asset for Shareholder)

                        Two exemptions:

1. Loss recognized by individual SH under sec. 1244

                                                *Where stock is within limits, considered ordinary loss

2. Loss recognized by corp. SH on the subsidiary stock worthlessness

                                                **where stock is considered ordinary loss under sec. 165 (g) (3)

Holding Period of Property and Its basis

            -Under Sec. 334 (a)

                        -Basis of SH’s property received is:

1. FMV on distribution date
2. property distribution upon date of distribution

Liquidation for Shareholder (Non-Subsidiary)

Under Sec. 331 (Shareholder):

• loss/ gain as if traded stock
• liabilities are assume less realized value (not under ZERO)
• Basis adjusted(Property received) = FMV (under Sec. 334 (a))
• After liquidation marks holding period date

Corporation Liquidation

Two Key questions:

1. What is the character and amount of recognized loss/gain?
2. What happens to tax attributies prior to liquidation?

Liquidation for Corporation (Non-Subsidiary)

Under Sec. 336 (Corporation):

• loss/ gain as if sold property (meant for FMV)
• liabilities assumed ≠ fmv property distributed
• Attributes of tax (e.g., carryovers, E&P, NOLS) vanish

Corporation Liquidation limitation related person (Non-subsidiary)

No loss permitted if:

• distribution to related person satisfies:

à 50% of family and shareholder attribution

                                                *Under sec. 267, this includes

1. Sisters
2. Brothers
3. Lineal relatives
4. Ancestors,

• and or;

1. non-pro rata distribution of property loss across shareholder, and or;
2. Sec.351 acquired property/ capt’l contribution are distributed in 5 yrs

Tax Avoidance purpose, Corporation Loss limitation (Non-subsidiary Liquidation)

Tax Avoidance purpose

            -property acquired to take liquidation loss

-determination of loss

                        * basis reduced to FMV (prior to collection on exchange, distb’n, or sale, if:

• Acquired , given that it is:

*w/in 2 years of liquidation plan)

• not if asset is employed in either:

* business or trade

• not if disposed

*on the first 2 years of the existence of corporation

Liquidation (Subsidiary)

Corporate shareholder

            -has 100% vote

            -subsidiary amount of corporation

Under Sec. 332 (Shareholder):

• NO loss/ gain
• basis in assets = carryover (under sec. 334 (b))
• Subsidiary stock basis (recedes)
• After liquidation marks holding period date

Under Sec. 337 (Corporation):

• NO loss/ gain
• Attributes of tax to shareholders + recapture depreciation

Hybrid Liquidation

• Corporate shareholder (and other SH, either individual or corporate) plus 80%

Shareholder:

• 80% + NO loss/ gain acknowledged
• other SH acknowledge loss/gain on sold stock
• basis of asset carryover allocated to 80% plus corp. SH (basis of FMV to another)

Corporation:

• NO loss/ gain acknowledged for allocated Assets + corp. Shareholder
• Asset Gain if allocated to another Shareholder
• No Loss on allocation of any asset to ANY Shareholder