6-1 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-2 CORPORATE LIQUIDATING DISTRIBUTIONS  Overview of corporate liquidations  General liquidation rules  Liquidation of a controlled subsidiary  Special reporting issues  Debt retirement  Tax planning considerations  Compliance & procedural procedures Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-3 Overview of Corporate Liquidations (Complete Liquidation)  Completely cancel or redeem all of corp’s stock in accordance with plan of liquidation OR  One of a series of distributions in accordance with plan of liquidation Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-4 Overview of Corporate Liquidations (Liquidation Status)  Corporation ceases to be going concern  Activities for purpose of winding up its affairs, paying debts, & distributing remaining property to shareholders  Retention of nominal assets does not alter liquidation status Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-5 Overview of Corporate Liquidations (Corporate Dissolution)  A legal action that requires corporation to surrender its charter to the state  Possible to liquidate corporation without dissolving it  Dissolution frees corporate name for use by others Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-6 General Liquidation Rules Effects of Liquidating on Shareholders  Amount of recognized gain or loss  Character of gain or loss  Basis of property received by shareholder  See Table 1 for a summary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-7 General Liquidation Rules Illustration Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-8 Amount of Recognized Gain/Loss  Shareholder assumed to have sold stock for FMV of net assets received FMV of assets - liabilities received - Basis of stock surrendered Amount of gain (loss) recognized Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-9 Character of Gain/Loss  General rule  Gain or loss treated as capital transaction  Exceptions  §1244 stock receives ordinary loss treatment (subject to limitations)  Losses sustained by a parent in a worthless stock investment in a controlled subsidiary receive ordinary loss treatment Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-10 Basis of Property Received by Shareholder  General liquidation rules  Basis of property received is FMV on distribution date  Holding period starts day after distribution date Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-11 General Liquidation Rules Effects of Liquidating on Liquidating Corporation  Recognition of gains/losses  Liabilities assumed by shareholders  Exceptions to general rule  See Table 2 for a summary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-12 Recognition of Gains/Losses  General rule:  Both gains & losses recognized  Tax attributes disappear Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-13 Liabilities Assumed by Shareholders  General rule  Distributed assets valued at FMV  Rule when liability exceeds FMV of related asset distributed  FMV of related asset cannot be less than amount of liability assumed or acquired Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-14 Exceptions to General Rule (1 of 3)  Distributions to related parties  No loss recognized by corp unless  Property distributed pro rata to all shareholders AND  Property NOT acquired by capital contribution or §351 within past five years  Gains recognized in accordance with general rule Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-15 Exceptions to General Rule (2 of 3)  §362(e)(2) may reduce loss recognition  Loss property contributed to a controlled corp  Corp reduces basis of loss property if total adjusted basis of property contributed exceeds FMV of that property  Results in a corp realizing a smaller loss  Or no loss at all Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-16 Exceptions to General Rule (3 of 3)  Tax-avoidance purpose:  Losses disallowed if primary purpose of acquisition of property in §351 transfer or capital contribution was to produce losses to offset gains from the liquidation of other property  Rule also applies to sales, exchanges, or other distributions of such property Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-17 Liquidation of a Controlled Subsidiary  Requirements for liquidation of subsidiary into parent  Effects of liquidation on shareholders  Effects of liquidation on subsidiary Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-18 Requirements for Liquidation of Subsidiary into Parent (1 of 2)  Parent owns  80% of voting power AND value of stock  Must be complete cancellation or redemption of subsidiary’s stock  Distribution(s) w/in a single tax year  Or qualify as one of a series of distributions completed w/in three years after year of first distribution Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-19 Requirements for Liquidation of Subsidiary into Parent (2 of 2)  Subsidiary must be solvent  Nonrecognition does not apply to minority stockholders  Nonrecognition does not apply if parent receives payment to satisfy subsidiary’s indebtedness to parent Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-20 Effects of Liquidation on Parent Corporation  Tax attributes carry over to parent including basis and holding period  Types of tax attributes  Potential for depreciation recapture  NOL carryovers  Earnings and profits balance  Capital loss carryovers  General business & other tax credits Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-21 Effects of Liquidation on Minority Shareholders  Taxed under general liquidation rules under §331  No carryover of basis or holding period Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-22 Effects of Liquidation on Subsidiary  Special rule for controlled subsidiary  No gain or loss recognized when controlled subsidiary transfers its assets and liabilities to parent corp  Tax attribute carryovers  NOL carryovers  E&P  Capital loss carryovers  General business and other tax credits Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-23 Special Reporting Issues Shareholders (1 of 2)  Partially liquidating distributions  If part of liquidation plan, §331 liquidation rules apply  If not, §302 redemption rules apply  Subsequent assessments against shareholders Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-24 Special Reporting Issues Shareholders (2 of 2)  Open transaction doctrine  If assets distributed cannot be valued gain or loss from liquidation determined when said assets are sold  Installment obligations received by s/h  May use install method if sale/exchange during liquidation period of ≤ 12 mo. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-25 Special Reporting Issues Liquidating Corporation  Expenses of the liquidation  Current expense if for plan of liquidation  Sales expenses offset sales proceeds  Reduce amount realized  Treatment of net operating losses  NOL created in liquidation year may be carried back Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-26 Debt Retirement Property Transferred to a Creditor (1 of 2)  If FMV of property = debt obligation  Corp recognizes gain (loss) if basis in property is less than (greater than) amount of obligation Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-27 Debt Retirement Property Transferred to a Creditor (2 of 2)  If FMV of property is < debt obligation  Corp recognizes forgiveness of debt income for difference  Above rules do not apply to subsidiary debt held by parent Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-28 Tax Planning Considerations  Timing of liquidation transactions  Recognition of ordinary losses when a liquidation occurs  Obtaining 80% ownership to achieve §332 benefits  Avoiding §332 to recognize losses Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

6-29 Compliance and Procedural Considerations  General liquidation procedures  Form 966  Issue 1099-DIV for distributions  §332 liquidations  Must keep permanent records  Plan of liquidation  Written document Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Comments or questions about PowerPoint Slides? Contact Dr. Richard Newmark at University of Northern Colorado’s Kenneth W. Monfort College of Business 6-30 Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall