Summary of Tax Rules for Liquidating Companies
Liquidations occurs when a company is closing because it cannot pay its bills or the value of the business assets is less than its liabilities.
For domestic corporations, C corporations pay tax on their income, and pay tax on whatever income the person receives as an owner or employee. S corporation doesn’t pay tax. Instead, the person and the other owners report the company revenue as personal income.
In these situations, apply Secs 331-346:
§331. Gain or loss to shareholders in corporate liquidations
(a) Distributions in complete liquidation treated as exchanges
Amounts received by a shareholder in a distribution in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock.
§332. Complete liquidations of subsidiaries
(a) General rule
No gain or loss shall be recognized on the receipt by a corporation of property distributed in complete liquidation of another corporation.
General liquidations happen for a one-time event or series of distributions. The following are important rules:
(1) Unless shareholder is a qualifying corporation, cash and fair market value of property is generally treated as proceeds in exchange for the stock.
(2) If the complete distribution happens within one tax year starting with the date of the first distribution, it will default to a liquidating distribution
(3) Liquidating corporation also adopts liquidation plan made over no greater than a three-year period starting with the first distribution
(4) Liquidating corporation is required to recognize gain or loss on assets disposed of.
(5) The amount is calculated if the property were sold to the shareholder at the fair market value of the assets.
Series (multiple) distributions happen if a liquidating plan includes multiple distributions over multiple years, the receiving shareholder will not recognize a gain until the FMV of received property exceeds the aggregate shareholder’s basis in the stock. In addition, if the receiving shareholder is expecting to recognize a loss, the shareholder will not be able to recognize the loss until the last distribution is made.
For corporations liquidating to 80%-or-more corporate shareholder:
⁃ When property is distributed in a complete liquidation of a corporation to another corporation with ownership qualifying under the consolidated group rules of Sec. 1504(a)(2), the receiving corporation is not able to recognize a gain or loss on the distributed property under Sec. 332.
⁃ Instead, the received property will assume the basis that the liquidating corporation had in the assets when the assets are distributed (Sec. 334).
How to file
(1) After a corporation adopts a plan of liquidation, send Form 966, Corporate Dissolution or Liquidation to IRS within 30 days after adoption.
(2) When distributions are made, file Form 1099-DIV, Dividends and Distributions, for each shareholder who receives $600 or more.
(3) If a shareholder own s1% or more of private corporation or 5% or more of public corporation, must include statement on or with their tax return.
If a corporation is terminating or intending to convert to a limited liability company (LLC) taxed as a partnership, the liquidation regulations will apply.
Liabilities must be taken into account and will be used to reduce the amount the shareholder realized. One exception under Sec. 332(c) is if the liquidating corporation is a regulated investment company or a real estate investment trust.