Classifying business entities under the check-the-box regulations.

• Author: Swenson, Michael C.

Under the check-the-box entity-classification regulations, an organization that is recognized for federal tax purposes as an entity separate from its owners can potentially be classified as: (1) an association taxed as a corporation, (2) a partnership, (3) a disregarded entity, or (4) a trust. Trusts are not considered business entities--see Regs. Sec. 301.7701-4. Under Regs. Secs. 301.7701-2 and -3, an entity that is formed as a corporation under local law is automatically classified as a corporation. When an entity is not a corporation under local law, its classification for federal tax purposes depends on whether it has more than one member (owner).

Determining if a separate entity exists

Federal tax law determines whether an organization is treated as a separate entity apart from its owner(s) for federal tax purposes. Local law is not the deciding factor. For example, if a business entity has more than one member, and if the participants carry on a trade, business, financial operation, or venture and divide the resulting profits, a separate entity is considered to exist (whether or not one is considered to exist under applicable state law). However, a mere expense-sharing arrangement or mere co-ownership of an asset does not create a separate entity (Regs. Secs. 301.7701-1(a)(1) and (2)).

Automatic classification as corporation

The following entities are automatically classified as corporations (Regs. Sec. 301.7701-2(b)):

* A business entity organized under a federal or state statute (or under the statute of a federally recognized Indian tribe), if the statute describes or refers to the entity as incorporated or as a corporation, body corporate, or body politic. Under this definition, any entity classified as a corporation under state law is automatically treated as a corporation for federal tax purposes.

* An association as determined under Regs. Sec. 301.7701-3. This generally means an unincorporated entity that elects to be taxed as a corporation, as explained later.

* A business entity organized under a state statute, if the statute describes or refers to the entity as a joint-stock company or joint-stock association.

* A business entity taxable as an insurance company under Subchapter L, Chapter 1, of the Code.

* A state-chartered business entity conducting banking activities, if any of its deposits are insured under the Federal Deposit Insurance Act, as amended, or a similar federal statute.

* A business entity wholly owned by a...