Liquidating S-Corporation in Divorce

[equinecpa]

I have a couple who run an S-corporation together. They are getting divorced. Right now the lawyer has set it up that the S-corporation will liquidate a portion of the assets to one spouse and the other spouse will continue with the existing S-corporation and the spouse receiving the distributed assets will start a new llc.

If this is the way they proceed what tax impact will this have? Can the assets that are being transferred to the new llc be rolled into it without tax consequence? Or would this be a deemed distribution at FMV?

I believe the shareholders would elect to allocate income based on 2 short tax years. Do the 2 short years go on one 1120-S return?

Would there be any advantage/disadvantage in liquidating and shutting down entirely the current S-corp and setting up 2 new LLC's rather than just one? The s-corporation has only been in existence for 2 years so I'm fairly confident there are no hidden liabilities lurking around that could raise up and bite either shareholder later on.

Geesh..on the surface this sounds so straight forward but as I delve into it...not simple at all.

Thanks for any help!

CArolyn

[veritas]

Did you mean

distribute some assets to the spouse? If so what kind of assets?

[equinecpa]

Truck and trailer worth around $100,000 with Sec 179 taken on them so basis is only approximately $30,000.

[veritas]

ouch

Nice tax planning by the attorney.

Any other assets which could be substituted?

[equinecpa]

Luckily the transactions haven't transpired yet-the client has asked my opinion (can you believe it! This is a GREAT client) before finalizing!

Corporate Assets: Trucks, trailers, Misc eqmt.-all heavily depreciated as corp is profitable so sec 179 provisions have been used heavily.

If the new llc recives truck & trailer (I imagine via shareholder distribution at FMV), will it be eligible to Section 179 the purchase if income limits permit? This might be a way of negating the tax on the distribution.

Or could the corporation spin off the assets to the new corp owned by both of the spouses...and then the spouse that wants to be removed gift their interest to the other spouse?

Carolyn

[abctax]

You should be able to structure it as a "D" (I think that's the one) reorganization that's tax free. I don't think you can use the LLC; I believe it would have to be another corp. Unless an LLC electing taxation as a corp would qualify....?

And there would have to be a business purpose to both of the entities. I researched something very similar years ago; this post is from my memory (not always the best source :-). Hopefully will start you in the right direction.

[equinecpa]

Does it matter that the existing S-corp is an LLC electing S status?

[JON]

Tax free reorg

is only chance. Is the one getting the truck going to use it for something outside of the current business. Are both spouses active in the business. I hope the truck coming out is not going to be leased back to the same operation. If the truck is not in a reorg the only advantage(or dis) is the gain on distribution will go back through the corporation to all stockholders in their P/L percentage. If the one spouse is not going to be active in the business, buy the stock even if with a longer term buyout.

[equinecpa]

Both spouses are going to continue with their own separate businesses which will be the same as the business that was run jointly in the corp.

[BOB W]

ABCTAX has the best way to handle this. Do a little more research relating to "Spin-offs". I don't remember if %of ownership has to be maintained. If so, this can be done over a period of time (change of ownership).


I didn't read all of this but it seemed to be going in the right direction.

http://www.infotaxsquare.com/view_article.php?id=173

[equinecpa]

I'd love to do the D reorganization but fear this won't qualify as the corporation has only been in existence for 2 1/2 years...not the 5 required. Is there any "wiggle" room on this? The shareholders have been in the same business for 5 years...they just formed the llc and elected s status 2 years ago.

[BOB W]

I don't know.... Maybe Brad will step in to help............

Here is some reading..............

http://www.irs.gov/pub/irs-pdf/i5310a.pdf

[BOB W]

I'd love to do the D reorganization but fear this won't qualify as the corporation has only been in existence for 2 1/2 years...not the 5 required. Is there any "wiggle" room on this? The shareholders have been in the same business for 5 years...they just formed the llc and elected s status 2 years ago.

You could keep separate books for the next 2 1/2 years then file combined books for tax return and then do the spin-off, messy but do-able.

Not all divorce issue are clean or timely.

[equinecpa]

Just thought I'd post an update to this situation. After further inquiry about the trucks and trailers I find they were never titled to the corporation. I plan on amending the corporate tax returns, deleting the assets from the corporate books, putting them on the taxpayers personal return.

Would you just report the depreciation as a Schedule C expense with no offsetting income? Or treat the loan payments as income to the shareholder on Schedule C?

The good news if they are titled to the taxpayers personally...I don't have a problem with distributing the assets to them.

[JON]

Sounds

tough to do... Accumulated depreciation creates ordinary income recapture, unless the trucks and corp are around for 3 years or less you will not get as much depreciation as the recapture (179??). Did the corp not pay for the vehicles?

Sounds really hard to do.... Let us know.