FOR LIVE PROGRAM ONLY Corporate Entity Conversions: Allocating E&P and Tax Attribute Carryovers in Reorganizations and Acquisitions TUESDAY , MAY 23, 2017, 1:00-2:50 pm Eastern IMPORTANT INFORMATION FOR THE LIVE PROGRAM This program is approved for 2 CPE credit hours . To earn credit you must: • Participate in the program on your own computer connection (no sharing) – if you need to register additional people, please call customer service at 1-800-926-7926 x10 (or 404-881-1141 x10). Strafford accepts American Express, Visa, MasterCard, Discover . • Listen on-line via your computer speakers. • Respond to five prompts during the program plus a single verification code . You will have to write down only the final verification code on the attestation form, which will be emailed to registered attendees. • To earn full credit, you must remain connected for the entire program. WHO TO CONTACT DURING THE LIVE EVENT For Additional Registrations : -Call Strafford Customer Service 1-800-926-7926 x10 (or 404-881-1141 x10) For Assistance During the Live Program : -On the web, use the chat box at the bottom left of the screen If you get disconnected during the program, you can simply log in using your original instructions and PIN.
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Corporate Entity Conversions May 23, 2017 Marcus E. Dyer, CPA, Esq., Tax Manager WithumSmith+Brown, Princeton, N.J. mdyer@withum.com Paul Helderman, CPA, MST , Partner WithumSmith+Brown, Morristown, N.J. phelderman@withum.com
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CORPORATE ENTITY CONVERSIONS : Allocating E&P and Tax Attribute Carryovers in Reorganizations and Acquisitions MARCUS DYER, CPA, ESQ, TAX MANAGER PAUL HELDERMAN, CPA, MST, TAX PARTNER wi with thum.com
LEARNING OBJECTIVES Identify corporate reorganization transactions and events that require separate calculations of acquired entity’s E&P Identify the tax treatment of distributions from E&P from acquired or reorganized corporations Determine how the tax attribute carryover rules of Section 381 impact the tax treatment of distributions from the E&P pool of acquired entities Determine method for allocating E&P among consolidated companies in a reorganization or merger transaction 6
E&P OVERVIEW
WHAT IS E&P? No comprehensive definition anywhere in the Code or Regulations Meant to represent the measure of a corporation’s ability to make distributions to its shareholders out of earnings rather than by returning contributions to capital. E&P is not concerned with tax policy or financial accounting considerations, rather, it is concerned with quantifying a corporation’s economic income . 8
WHAT IS E&P? Guidance on the meaning of E&P and the effect of certain transactions on E&P can be found in: Section 312 Judicial Administrative and precedent rulings regulations thereunder 9
WHAT IS E&P? NOT TAXABLE NOT BOOK RETAINED INCOME EARNING E&P is not taxable income. E&P is not book retained Taxable income is driven by earnings. Fundamental tax policy considerations: for differences exist example: tax-free muni bond between these two interest or nondeductible concepts. penalties. E&P is an attempt to compute economic income. 10
GOVERNING PRINCIPLE “Luckman Principle” – Below market value stock options generally represent economic expense to corporations, thereby reducing earnings and profits. (Luckman v. Commissioner 418 F.2d 381 (1969)) If there is no specific authority governing the treatment of a particular item in computing E&P ask yourself the question: Does this item increase or decrease the economic income available for a corporation to distribute to its shareholders? 11
WHY MUST WE DETERMINE E&P? To determine the taxability of corporate PRIMARY PURPOSE distributions to shareholders. OTHER REASONS SECTION 56 SECTION 531 SECTION 1248 S CORPORATION ISSUES Computing a Termination of S if Accumulated Gain from • E&P exists and corporation’s earnings tax. sale of stock excess passive income (Section 1362) “adjusted in CFC may • Corporate level tax if current be a dividend C Corp. E&P exists with excess passive earnings,” a to the extent income (Section 1375). Distributions treated • component of of CFC’s E&P. as dividends to the AMT calc. extent of C Corp. E&P (Section 1368). 12 12
TAXABILITY OF CORPORATE DISTRIBUTIONS Section 316 Section 301(c) A “dividend” is any distribution Ordering rules for distributions made from a corporation’s: • Current earnings and profits, or • First, to the extent a corporate distribution represents a dividend, • Accumulated earnings and profits it represents taxable income to the shareholder, • Then, any remaining distribution is a tax-free return of a shareholder’s capital, • Finally, any remaining distribution is treated as a sale of stock, resulting in capital gain. 13
REORGANIZATIONS AND ACQUISITIONS
SECTION 381 REQUIREMENTS In a reorganization transaction to which section 381(a) applies (i.e., A,C,D,F or G), Section 381(c)(2) provides that: the acquiring corporation succeeds to, and takes into account, the earnings and profits or deficit in earnings and profits of the distributor or transferor corporation. The deemed succession takes place as of the close of the date of distribution or transfer. Sec. 381(c)(2)(A) A deficit in E&P of the distributor, transferor, or acquiring corporation shall be used only to offset E&P accumulated after the date of transfer. Sec. 381(c)(2)(B) 15
REORGANIZATONS & ACQUISITIONS Generally, Target’s E&P is preserved Taxable stock acquisitions Exceptions: 1. the acquisition is a qualified stock purchase and Sec. 338 election is made. 2. a member is acquired out of a consolidated group. Tax-free asset acquisitions: Sec. 368 Type C reorganization Acquirer succeeds to target’s E&P Sec. 368 Triangular “C” reorganization Acquisition sub succeeds to target’s E&P Tax-free mergers: Sec. 368 Type A statutory merger Acquirer succeeds to target’s E&P Acquisition sub succeeds to target’s E&P Sec. 368 Forward triangular merger Sec. 368 Reverse triangular merger Target retains its E&P 16
REORGANIZATONS & ACQUISITIONS Tax-free stock transactions: Target’s E&P does not carry over to acquirer Sec. 368 B reorganization Sec. 368 Triangular B reorganization Target’s E&P does not carry over to acquirer sub Other transactions E&P is allocated between distributing corp and Sec. 355 Transactions (preceded by a Sec. controlled corp generally based on the fair value 368(a)(1)(D) reorganization) method. Sec. 355 Transactions (not preceded by a E&P of distributing corp and controlled corp is 368(a)(1)(D) reorganization) adjusted/determined based on formula. Sec. 368 F & G Reorganizations Acquirer succeeds to transferor corp’s E&P 17
SEC. 381 EXAMPLE 1 A and B Corporation make their returns on the basis of the calendar year. On June 30, 1959, A Corporation transfers all of its assets to B Corporation in a statutory merger to which Section 361 applies. B Corporation has E&P of $36,500 in 1959. The books of the two corporations are as follows: DESCRIPTION A CORPORATION (TRANSFEROR) B CORPORATION (ACQUIRER) Accumulated E&P at close of $100,000 $150,000 calendar year 1958 E&P of taxable year ending $15,000 $0 June 30, 1959 E&P of calendar year 1959 $36,500 Distributions $0 $0 18
EXAMPLE 1 SOLUTION 1.As of close of June 30, 1959 B corporation acquires from A corporation E&P in the amount of $115,000 ($100,000 accumulated at the close of 1958 and $15,000 earned between the close of 1958 and date of distribution or transfer). 2.B corporation has current E&P of $36,500 in 1959. Calculation of B Corp’s E&P acquired A corporation’s pre -1959 E&P $100,000 A corporations 1959 E&P $15,000 Total $115,000 19
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