C-Corp Conversion to LLC Taxed As Partnership - Big tax liability??

[bbrownatl]

I have a client with a 9% common stock interest in a C-Corp. That C-Corp is being converted into an LLC taxed as a partnership. In return, my client is getting and LLC interest in exchange for his 9% common stock interest. On the surface and at first thought, this seemed to me as a non-taxable exchange. Same interest, same company, just different structure now. However, would there be a significant tax liability coming here? Is it treated as a C-Corp liquidation with assets being distributed? In essence, double taxation - to the Corp and also the shareholder?? Then it gets treated as contribution to the LLC as the partnership interest.

Any input is much appreciated.

Brian

[veritas]

I would ask

I have a client with a 9% common stock interest in a C-Corp. That C-Corp is being converted into an LLC taxed as a partnership. In return, my client is getting and LLC interest in exchange for his 9% common stock interest. On the surface and at first thought, this seemed to me as a non-taxable exchange. Same interest, same company, just different structure now. However, would there be a significant tax liability coming here? Is it treated as a C-Corp liquidation with assets being distributed? In essence, double taxation - to the Corp and also the shareholder?? Then it gets treated as contribution to the LLC as the partnership interest.

Any input is much appreciated.

Brian

the accountant that is handling the entity change. It would seem to me that there could be some major tax implications.

[Gretel]

Is it treated as a C-Corp liquidation with assets being distributed? In essence, double taxation - to the Corp and also the shareholder??

Brian

I think this is exactly what it is, you can easily convert to a corporation with no tax implications but not the other way round.

[Roland Slugg]

This type of reorganization does not meet any of the reorganization types described in Code §368(a)(1)(A) through (G). Therefore, the conversion will be taxable, both to the corporation and to your client who owns 9% of the corporation's shares.

The tax at the corporate level will be borne by the corp, of course, and for your client the transaction will be treated as a sale of the corp's shares. The selling price of your client's shares will be equal to the FMV of the LLC interest received in the exchange, and your client's capital gain or loss will be that same FMV minus the basis of the corp's shares redeemed. The beginning basis in the LLC interest received will also be that same FMV, and your client should be informed of how much that FMV is as of the transaction's closing date.

[Snaggletooth]

Why Would They?

Given Roland's answer, you've got to wonder why they are doing this.

I hope they have been properly advised of the tax implications. They are trading a double-taxation entity for a pass-through entity, but I suspect the real reason is to create a joint and several debt liability. Of course, the double-taxation entity has just lost some of its appeal with the rise in dividend taxation to 20% but I'm not aware of any corporations that are changing to a pass-through as a result.

Again, I turn to the spectre of debt. If this is a driving force, it is true that the taxpayer's basis can be increased by his(her) personal guarantee of a partnership loan.