Shifting of Income

[Corduroy Frog]

Maddox owns 100% of the stock in two distinctly different C corps. Corporation A is fully staffed with administrative personnel, Corporation B has a minimal number of employees.

Corporation A does virtually all the administrative work for Corporation B, such as accounting, billing, paying bills, transferring money, etc. Corporation B pays Corporation A a monthly fee of $2500 for this administrative work.

However, for a year or two, Corp B operates at a loss and Corp A reduces its monthly fee in order to shift profitability to Corp B. Then Corp B begins to do well, and Corp A increases its monthly fee to shift profitability BACK to Corp A.

Neither corporation has a shareholder other than Maddox. Assuming Maddox discloses and observes the surtax exemption for controlled groups, can he shift profitability by tinkering with the administrative fee??

[Burke]

Since he is the sole shareholder of both corporations, what is accomplished by the shifting of income? To reduce the corp income tax rate by one or the other? It's not unusual for a business to reduce rates in times of economic distress.

[ChEAr$]

Ron, are you asking from a tax standpoint or an accounting viewpoint?

[Nashville]

Tax implications

On behalf of the Corduroy Frog, I'm wondering if he can do this for the purpose of reducing income taxes.

Lets review corporations A and B. Assume corp A has a large NOL carryforward, and B is extremely profitable.

Corp A doubles and triples its billing to B. The tax effect means B is no longer profitable and thus pays no tax. The income shifted to Corp A by this action gets lost in the large NOL carryforward, so neither company pays tax.

This makes the question quite relevant. Just wondered if this kind of action is breaking the tax code/regs somewhere.

[JohnH]

Just wondering - in an audit might he have trouble establishing valid business purpose for varying the admin fee.

[ChEAr$]

All you have to do is to file one consolidated return.

Will that work?

[Gary2]

Ron, are you asking from a tax standpoint or an accounting viewpoint?

Or, to put this another way, is this motivated by tax concerns or a desire to improve the book value of one of the corporations, say to attract investors to one of the two businesses?

[Nashville]

Can that be done?

[QUOTE=ChEAr$;142430]All you have to do is to file one consolidated return.
QUOTE]

Can this be done? Remember, Maddox owns both corporations, but neither corporation owns stock in the other.

The two corporations obviously form a "controlled group", meaning there can be only one surtax exemption. But I thought in order to file a consolidated return, one company had to "own" the other, not just have common ownership.

I can't think of any Code/Regs that this would violate, but that doesn't mean I know all of them. I'm thinking he might be in trouble if the juggling of fees has no economic substance other than the avoidance of taxes.

[ChEAr$]

It's been a while since I've played with this, but you may be right about that. I recall doing it once upon a time, but sadly have forgotten the ownership details.

[Burke]

On behalf of the Corduroy Frog, I'm wondering if he can do this for the purpose of reducing income taxes.
This makes the question quite relevant. Just wondered if this kind of action is breaking the tax code/regs somewhere.

Shifting of income to reduce or avoid income taxes is illegal. And I would posit, if this is the net result, even if that were not his intent, it would still hold. I had to deal with this once, will try to find where I read it.

[Burke]

Cite & Source

The concept of income shifting is dealt with in the law under the "assignment of income doctrine" derived from IRC 61(a). This has generally been determined in the courts and is the policy the IRS follows. See Lucas v. Earl, 281 US 111 (1930) and Helvering v. Horst, 311 US 112 (1940), as well as Commissioner v. Culbertson, 337 US 733, 739-40. The concept is applied both to individuals and controlled corporations.

https://www.lawgame.net/pdf/dtax.pdf

https://www.traderstatus.com/assignmentofincome.htm

http://en.wikipedia.org/wiki/Assignment_of_income_doctrine

[erchess]

Attracting Investors

Gary I feel certain that investors attracted to one would have to be told all about the other and the history between the two.

[Bees Knees]

Shifting of income to reduce or avoid income taxes is illegal. And I would posit, if this is the net result, even if that were not his intent, it would still hold. I had to deal with this once, will try to find where I read it.

Shifting of income is not always illegal. There are legitimate was to delay income receipt or accelerate deductions to shift income recognition from one year to the next. A simple example is to wait until January to issue that bonus to yourself. Nothing illegal about that. Or wait until January to send out December invoices to customers. Nothing illegal about that.

If done right, two corporations with a common owner could shift income back and forth through delaying or accelerating billing practices. However, I would probably try to stay away from charging inconsistent fees for services performed, as that seems blatant and probably would be challenged by IRS.