Tax consequences liquidating corporation

Another example is where an S corporation wants to grant an equity interest to a key employee in exchange for their past and future services.

Oftentimes, the best approach in this case is to grant the employee a “profits interest” in the business, but S corporations cannot grant such interests, while tax partnerships can.

These headaches can oftentimes be avoided by utilizing an S corporation inversion.

The S corporation inversion is accomplished by having the shareholders of the S corporation (“Old S”) transfer their stock to a newly formed S corporation (“New S”) in exchange for all the stock of New S.

Simply converting or merging the S corporation into an LLC taxed as a partnership is not satisfactory, because that transaction would trigger the taxable liquidation of the S corporation.

One method to convert to a tax partnership tax-free, without undergoing an inversion, is the “LLC drop-down,” which entails the S corporation forming a wholly-owned LLC, that is initially a disregarded entity for tax purposes, and transferring all of the S corporation’s assets and business to the new LLC.

Not cancelling licenses and permits may leave the corporation shareholders liable for penalties and taxes incurred after the dissolution.

However, this restructuring is deceptively simple, because migrating the S corporation’s business to the new LLC can create many issues, including (1) migrating employees, payroll, and benefit plans to the new LLC; (2) opening new operating and payroll bank accounts for the new LLC; (3) consulting with insurance agents to obtain coverage for the new LLC; (4) assigning customer, lease, vendor, and other key agreements to the new LLC, which oftentimes requires the counterparty’s consent; (5) transferring or obtaining new licenses and permits for the new LLC to operate the business; and (6) obtaining lender consent.

Meet with all shareholders and present a vote on the dissolution of the C corporation.

Depending on the bylaws of the corporation and specific state statutes, the dissolution vote may require simply a majority or it may require a specific majority such as two-thirds or a unanimous vote of the shareholders to dissolve the corporation.

Each taxpayer should seek advice based on the taxpayer's particular circumstances.

This type of corporation requires special organization and operation to adhere to state and federal laws and regulations.

Leave a Reply