Liquidating a controlled subsidiary tax-free.

• Author: Hackett, Trenda B.

This case study has been adapted from Checkpoint Tax Planning and Advisory Guide's Closely Held C Corporations topic. Published by Thomson Reuters, Carrollton, Texas, 2022 (800-431-9025; tax.thomsonreuters.com).

The liquidation of a corporation generally requires the liquidating corporation to recognize gain or loss on the distribution of its property in a complete liquidation as if the property were sold at its fair market value (FMV). However, a controlled subsidiary corporation liquidates without gain or loss to its parent, with implications for the parent's succeeding to the subsidiary's loss carryforwards and other tax benefits, as well as satisfaction of any indebtedness to the parent.

Avoiding recognition of gain or loss

Nonrecognition of gain or loss by a parent corporation and its subsidiary on the liquidation of the subsidiary is mandatory if the following requirements are met (Secs. 332 and 337): * The parent owns at least 80% of the voting stock of the subsidiary and at least 80% of the total value of all the subsidiary's stock (Secs. 332(b)(1), 337(c), and 1504(a)(2)). Sometimes, liquidating distributions are made over a number of years rather than at one point in time. In that instance, the parent corporation must own at least 80% of the subsidiary's stock beginning on the date of adoption of the plan of liquidation; that ownership must continue until all property has been distributed. If the parent's ownership falls below the required 80% at any time during this period, this requirement will not be met, and the nonrecognition provisions will not apply to any distribution (Regs. Sec. 1.332-2(a)). A resolution by the shareholders to distribute all the subsidiary's assets in complete cancellation or redemption of all the subsidiary's stock is an adoption of a plan of liquidation, even if the date to complete the property transfer is not identified (Sec. 332(b)(2)). However, when liquidating distributions are made in more than one tax year of the subsidiary, the plan must specify the period during which the property transfer to the parent will be completed (Regs. Sec. 1.332-4(a)(1)).

* The distribution must be in complete cancellation or redemption of all the subsidiary's stock, and the transfer of property must occur within the tax year. Or the distribution must be one in a series of distributions in complete cancellation or redemption of the stock in accordance with a plan of liquidation under which the distributions of the property must occur within...