Gifts Within One Year of Death

Previous articles and information posted by The McGuire Law Firm have discussed issues related to a step up in basis and carryover basis depending upon whether the property was gifted during a donor’s lifetime or acquired at death via inheritance.  Given the marital deduction, Congress was concerned that certain individuals may take advantage of the unlimited marital deduction and code sections that allow for a step up in basis.  Thus, Internal Revenue Code section 1014(e) was enacted to prevent certain abuse.  The article below has been prepared by a tax attorney in Denver to provide additional information related to IRC Section 1041(e).  Please remember that this article is for informational purposes and you should always contact your tax attorney or estate planning attorney directly regarding your tax and estate planning matters.

IRC Section 1014(e) prohibits a step up in basis in regards to appreciated property that was acquired by the decedent via a gift within one year of their death.  Thus, section 1014(e) would provide for a carryover basis for such property.  Section 1014(e) specifically states: In the case of a decedent dying after December 31, 1981, if: (A) appreciated property was acquired by the decedent by gift during the 1 year period ending on the date of decedent’s death, and (B) the property is acquired from the decedent (or passes from the decedent to) the donor of the property (or the spouse of such donor), the basis of the property in the hands of such donor (or spouse) is the adjusted basis of the property in the hands of the decedent immediately before the death of the decedent.  Appreciated property is defined as “any property if the fair market value of such property on the day it was transferred to the decedent by gift exceeds its adjusted basis.”

By requiring that the donee spouse survive for at least one year after the transfer, IRC Section 1014(e) limited the ability of a tax free transfer to a terminally ill spouse and then the receipt of such property upon the death of the terminally ill spouse with a step up in the basis of the property.  Moreover, the Internal Revenue Service has also ruled that IRC Section 1014(e) will apply to portions of property that are held in a joint revocable trust funded with assets that were held by the grantors as tenants by the entireties.

In 2001, the Economic Growth and Tax Relief Reconciliation Act repealed Section 1014, and a carryover basis position was implemented under IRC Section 1022.  This code section will (or may) apply to decedents passing after December 31, 2009.  IRC Section 1022 holds that property received from a decedent is treated as if received via a gift, thus the recipient of the gift would have a basis equal to the lesser of the decedent’s adjusted basis of the fair market value as of the date of death.  Thereafter the 2010 TRA did reinstate the estate tax and fair market value basis at death provisions, and repealed the IRC Section 1022 carryover basis for decedents passing after 2009.  Thus, the provisions and application within these code sections can be confusing, and it is important to understand the history.  Again, when looking at the application of these sections and provisions, you should always consult with your estate planning attorney and/or a tax attorney or tax professional.

If you have tax questions or questions related to your estate plan, contact The McGuire Law Firm to speak with a Denver estate planning attorney or tax attorney.  The McGuire Law Firm provides a free consultation with an estate planning attorney and tax attorney in Denver, Colorado.

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Personal Goodwill by Denver Business Attorney

Typically the sale of a corporation through an asset sale will result in two levels of tax when dealing with a C Corporation.  There is likely to be taxable gain to the corporation, and a taxable distribution to the shareholders of the corporation.  Hence, the term “double taxation” that has been used to describe the corporation paying income tax and shareholders being taxed on the distributions.  There is a potential strategy that shareholders of a corporation (likely a closely held corporation) can use to avoid this double taxation.  This strategy would involve the shareholder taking the position that a portion of the price paid (the purchase price) is for personal goodwill.  Because this portion being paid is for personal goodwill, it should be taxed as capital gain to the shareholder.  Thus, the amount allocated as personal goodwill is not taxed as corporate income, and receives capital gain treatment.  This sounds too good to be true, and in many instances it may be, or can be reviewed, scrutinized and challenged by the IRS.  Thus, it is very important that the shareholder(s) consult with their tax attorney, business attorney and/or another tax professional prior allocating a portion of the purchase price as personal goodwill.  The article below has been prepared by a tax attorney in Denver at The McGuire Law Firm to provide additional information regarding personal goodwill.

The idea or concept of personal goodwill is based upon the notion that a certain portion of the businesses success can be attributed to an individual or individuals.  For example, perhaps the individual shareholder has wonderful relationships with clients, and thus a good deal of the businesses success may depend on this individual.  Further, the relevant court cases display that covenants not to compete and the asset purchase agreements play important roles in determining personal goodwill.  In general, the more recent cases have held that if a taxpayer (shareholder) enters into some form of employment agreement or a covenant not to compete with the corporation, the personal goodwill would likely be transferred to the corporation, and thus a corporate asset as opposed to an asset of the taxpayer (shareholder).  Furthermore, it is very important that the parties properly document the personal goodwill in the negotiations and the asset purchase agreement. The court is likely to review the communications between the parties and the purchase agreement to check for the existence of the personal goodwill, which likely would or should be discussed and included within the agreement if in fact a portion of the purchase price is being allocated to personal goodwill.  In addition to reviewing the related documents to the transaction, it may be wise to obtain a third part valuation to establish the personal goodwill and value of such personal goodwill.

The above article has been written by John McGuire, a tax and business attorney in Denver, Colorado and the founding partner of The McGuire Law Firm.  You can contact Mr. McGuire at 720-833-7705 or John@jmtaxlaw.com.

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Depreciation Adjustment to Basis of Joint Property

In prior articles we have discussed the basis in property that is received through a survivorship right.  The article below continues to discuss this issue, but brings an additional variable or issue into the discussion.  This issue being: How does depreciation impact the basis of property that is received by a survivor, or in other words, if the asset received by the survivor was subject to depreciation, how does the depreciation impact the survivor’s basis in the asset?  Please remember that the article below is for informational purposes and you should always consult with your tax attorney and/or estate planning attorney regarding your specific facts and circumstances.

When a survivor acquires property from a decedent prior to death, and the property is included within the decedent’s estate at fair market value when calculating estate tax, the survivor’s basis may be reduced by the amount of depreciation taken by the survivor when calculating taxable income.  The code section to reference regarding this issue is Internal Revenue Code Section 1014(b)(9).  Thus, when a co-owner of property has received benefits from depreciation on the property acquired and eventually obtains complete ownership, the properties basis in the hands of the survivor will be lessened by the depreciation benefit received before the co-owner’s death.

In most jurisdictions, two joint tenants are entitled to one-half of the income and charged with one-half of the expenses.  Thus, upon the death of the first tenant the surviving tenant’s basis in the property would be reduced by one-half of the depreciation allowed during the time the property was owned in joint tenancy.

 

An example may help illustrate this matter.  In 2010 X and Y purchase depreciable property for $100,000.  Over four tax periods, from 2010 through 2013, depreciation of $10,000 is taken each year totaling $40,000, and Y passes away in 2013 when the property had appreciated to $120,000.  X’s basis in the property would be $100,000.  This is the full value of the property included in Y’s estate of $120,000, less $20,000, which is X’s share of the total depreciation taken during the time the applicable property was jointly owned.

Understanding and calculating basis can be complicated and require the maintenance of tax returns and other documents.  But again, we care because you must be able to accurately calculate basis to accurately calculate the gain or loss upon the sale or disposition of an asset.  If you  have questions related to the basis of an asset, you can contact a Denver tax attorney at The McGuire Law Firm to discuss these matters.  Further, The McGuire Law Firm assists clients with certain estate planning matters, and you can discuss the transfer of certain assets with an estate planning attorney if needed.

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S Corporation Stock and Debt Basis General Matter

Why do shareholders in an S Corporation care about their stock basis and debt basis?  A shareholder’s basis in the S Corporation stock or debt is very important for multiple reasons.  The article below has been prepared by a tax attorney and business attorney at The McGuire Law Firm to provide additional information regarding the above issue.  Please remember to always consult your tax or business attorney regarding your specific issues.

S corporation shareholders may be limited to the amount of loss they can claim.  Even if the K-1 issued to the shareholder shows a loss, this does not necessarily mean the shareholder can claim the loss on their 1040 individual income tax return.  There are three loss limitations to a shareholder of an S corporation.  These loss limitations are as follows: 1) At risk limitations; 2) Stock Basis and Debt Basis Limitation; and. 3) Passive Activity Loss Limitations.  Each limitation must be met, starting with a shareholder’s stock basis and debt basis in the S corporation stock for a shareholder to claim a pass through loss.  This article will discuss stock and debt basis.

Unlike a C corporation, a shareholder of an S corporation will recognize an increase or a decrease in their stock basis each year based upon the operations of the corporation, which is related to the K-1 that is issued to the shareholder.  The shareholder is responsible for tracking their S corporation stock basis, not the corporation.  The K-1 that is issued to the taxpayer will show the amount of non-dividend distributions that the shareholder has received, but does not state the taxable amount of the distribution.  The taxable amount of a distribution is dictated by the shareholder’s basis stock basis.  If a shareholder receives a non-dividend distribution from an S corporation, the distribution can be tax free to the extent of the shareholder’s stock basis.  If the shareholder has a stock basis in excess of the non-dividend distribution, the distribution may be tax free.

If a loss is allocated to the shareholder, the shareholder must have sufficient stock basis (or potentially debt basis) to claim the loss or deduction on their 1040 individual income tax return.  Thus, a shareholder’s stock and/or debt basis in the S corporation can dictated whether or not or how much of a loss or deduction can be taken by the shareholder and is why a shareholder should care about their basis.  Furthermore, such basis also provides the amount by which the shareholder can take a non-dividend distribution tax free. In later articles, we will discuss how such stock basis is computed and other related issues.

If you have questions related to your S corporation you can speak with a Denver tax attorney and business attorney by contacting The McGuire Law Firm.  A free consultation is provided to all potential clients.

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Denver Sales Tax License

In previous articles, we have discussed the types of taxes that are assessed and collected by the City and County of Denver.  One such tax that applies to many businesses is sales tax, and many business owners have questions related to sales tax licenses.  The article below has been drafted by a tax attorney and business attorney at The McGuire Law Firm to provide additional information related to sales tax license issues in Denver.

When a business is located in Denver, Colorado and makes retail sales, leases or even rentals of tangible personal property, the city and county of Denver requires that the business have a sales tax license.  Under certain circumstances, a sales tax license may not be required, but the business may be subject to the Denver use tax, and this may require the business to have a Denver consumer use tax registration.  Often a business owner will ask: What if my business is not located in Denver, do I need a sales tax license?  If a business is located outside of Denver, but makes retail sales, leases or rents tangible personal property in Denver, the business is required to obtain a Denver retailer’s use tax license.  Other common questions and issues are outlined below regarding sales tax in Denver.

Does Denver have an annual special event fee?  At this current time, there is no current annual event fee.

What if I am only selling my product for a couple of days in Denver?  When a business participates in an event that is 2 weeks or less, you may be required to pay a special event fee, which would only be valid for the specific event.  Any sales tax due from the special event would be due by the 20th day of the following month.

I operate my business from my home so do I need a sales tax license?  Yes, any business located in Denver making retail sales, leases or renting tangible personal property must have a sales tax license.  Again, if a business is not subject to sales tax, businesses located in Denver are subject to the consumer’s use tax, which may require a Denver use tax registration.

My business sells products on the web from my web site, do I need a sales tax license?  Yes, if you are located or have a physical presence in Denver, your business is required to obtain a Denver sales tax license, as well as collect and remit Denver sales tax on sales made in Denver.

What is the fee for a Denver sales tax license?  The current fee for the sales tax license is $50 per location, which covers a 2 year period.  You can click this link for an application, but please check to make sure it is current.

If you additional questions relating to sales tax in Denver, contact a Denver tax attorney from The McGuire Law Firm.  The McGuire Law Firm provides a free consultation with a tax attorney so you can discuss your questions and issues.

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Types of Buy Sell Agreements by Denver Business Attorney

In a prior article, buy sell agreements were discussed in general, regarding the potential benefit to small business owners.  The article below has been drafted by a business attorney to provide general information regarding certain types or forms of buy sell agreements that small business owners may be able to use for their buy sell agreement.

A cross purchase agreement is a form of buy sell agreement whereby the owners of the business will enter into an agreement holding that is one of the business owners withdraws from the business, the remaining business owners will acquire the withdrawing owner’s business interests.  The acquisition of the interest can be directly from the business owner, or from the owner’s estate.  The purchase price for the business interest will be determined and dictated by the cross purchase buy sell agreement, and the funding for the purchase price is the remaining (or contracting) owners of the business.  Thus, the business does not pay for the interest that is being acquired.  A cross purchase buy sell agreement can be contrasted to a redemption type buy sell agreement.  Under the redemption agreement the business entity agrees to redeem the contracting owner’s interest when a specific event (triggering event) occurs.  The specific triggering events could be the withdrawal of an owner, the death of an owner or other circumstances that will trigger the entities requirement to redeem or purchase the interest.

Business owners can also create a hybrid type buy sell agreement that is a combination of the cross purchase agreement and redemption agreement.  Under the hybrid version of a buy sell agreement, the business entity has the primary right to purchase or redeem the business owners interest and the remaining business owner can be allowed (or perhaps required) to purchase the withdrawing owners interest to the extent the entity does not redeem or purchase the interest.  The order of priority can also be reversed whereby the remaining owners have priority to purchase the withdrawing interest.  However, it is important to note that if the entity is a C corporation, if the remaining shareholders have the primary obligation to purchase the withdrawing shareholder’s shares, but the corporation actually purchases the shares, the remaining shareholders are treated as if they received a dividend from the corporation to the extent of the corporation’s earnings and profits.

Business owners can also structure a buy sell agreement whereby the sale would be to a designated successor.  The successor could be a complete outsider with no synergy with the business or an individual intertwined with the business.

A buy sell agreement can also be established as a sale to an ESOP.  The ESOP would be designed to invest in the securities of the corporation that created the ESOP, and could provide a tax exempt means by which employees could participate in the business.

Thus, there are multiple options when drafting a buy sell agreement for your business.  You can discuss these matters with a Denver business attorney if you have questions regarding a buy sell agreement or other business matters.  The McGuire Law Firm provides a free consultation with a business attorney in Denver or Golden Colorado.

Revocable Transfer Discussed by Estate Planning Attorney

Often when property is gifted, whether directly or perhaps into a trust agreement, the transfer may be incomplete or only partially complete.  An incomplete gift may be from design, and some estate planning attorneys will use an incomplete gift purposefully within an overall estate plan.  Other times, the gift may be incomplete, but not necessarily on purpose.  A gift can be incomplete because of a power to revoke, certain reserved powers and under other circumstances.  The article below has been prepared by an estate planning to provide information relating to an incomplete gift due to the transfer being revocable.  Please remember to discuss your estate matters directly with your estate planning attorney.

When a donor gifts property, whether the gift is into a trust agreement or otherwise is incomplete to the extent the donor has the right or reserves the right to revoke the transfer.  The ability to revoke the transfer or revocation power could be a directly expressed or implied based upon the facts and circumstances.  If a transfer is subject to a revocation power, the transfer or gift becomes complete only when the donor’s power to revoke the gift has terminated or has been relinquished.

As stated above, the power to revoke can be implied if a trust agreement indicates that the donor, in essence has reserved the power to revoke.  One court case within the United States Tax Court, In Mandels Est. v. Commissioner, 64 T.C. 61 (1975), the court determined that the grantor’s initial transfer into the trust agreement was not a complete gift because a gift into trust was revocable under state law (New York State law).  The court made this determination even though the trust agreement did not expressly provide for a revocation power.  However, within the trust agreement, the donor maintained the majority of the elements one would consider regarding incidents of ownership over shares of the stock of a closely held corporation that were transferred into the trust.  In Mandels, the trust agreement specifically prevented the trustees from selling, transferring, pledging or encumbering the stock.  Furthermore, the trustees could take no action or proceedings regarding the stock of the closely held corporation.  Furthermore, the donor (trust grantor) retained the rights the stock dividends as well as redemption and liquidation proceeds, as well as the right to vote the shares.  Thus, under these circumstances, the donor or grantor had retained too much power, or the implied ability to revoke the transfer and thus the gift was deemed incomplete.

A gift that is deemed incomplete may impact an individual’s overall estate plan and estate or gift tax consequences.  Thus, it is important that you consider these issues with your estate planning attorney and tax attorney when drafting estate planning documents.  You can speak with a Denver estate planning attorney and tax attorney by contacting The McGuire Law Firm.

Burden of Proof When Stepping up Basis of Jointly Owned Property

Under Section 2040(a) of the Internal Revenue Code, all jointly owned property must be included within a decedent’s estate, except for any portion that can be shown to have originally belonged to the surviving joint tenant, and that was never received or acquired by the surviving joint tenant from the decedent for less than full and adequate consideration.  Section 1014 of the Internal Revenue Code will generally give a surviving joint tenant a step up in basis as to the portion of the jointly held property that was included in the decedent’s estate.  This inclusion of the jointly held property in the decedent’s estate may or may not create any estate tax due, which would or may depend upon the use of the decedent’s unified credit or use of the marital deduction depending upon who else was a joint tenant.  Regardless, the inclusion of the property in the joint tenant’s estate will allow for the step up in basis.  This step up in basis could lead to taxpayers arguing that a larger portion of the jointly held property was included within the deceased joint tenant’s estate.  A taxpayer may be able to accomplish this by failing to show that they had contributed to the property.  Thus, what happens if the surviving joint tenant or tenants fail to or makes no attempt to establish their contribution in regard to the acquisition of the jointly held property?  Can the surviving joint tenant or tenants receive a full step up in basis to the fair market value of the property as of the date of death?  Who has the burden to prove a step up in basis should be allowed and the amount of the step up in basis?

One United States Tax Court case touched on some of the issues or questions above.  In Madden v. Commissioner, 52 T.C 845 (1969) the consideration furnished test was applied when the taxpayer included one half of jointly held stock in his wife’s estate tax return.  Such inclusion was made even though the deceased wife had not paid any consideration for the stock that was included within her estate tax return.  When the taxpayer sold the stock, a stepped up basis was used in computing the gain on the sale of the stock.  The basis was challenged by the IRS and the taxpayer unsuccessfully argued that his wife’s estate had failed to prove the burden that the consideration was not paid by the wife, and thus one half of the stock should receive a step up in basis under IRC Section 1014.  As stated above, this argument was unsuccessful as the court held the taxpayer had the burden to prove, and failed to prove that the jointly held property was required to be included in the decedent’s estate.  See IRC Section 1014(b)(9).  The reasoning of the court was that a taxpayer should not receive a tax advantage by deciding whether or not to include jointly owned property within an estate.  Thus, the “requirement” issue.

Under the current law, the consideration furnished rule will likely not apply to most cases involving property that is jointly owned by spouses, and one half of the property will be included within the estate of the first spouse to pass.  However, the consideration furnished test is likely to apply to non-spousal joint tenancies  and thus Madden can be of relevance.

You can contact The McGuire Law Firm to speak with a Denver estate planning attorney and tax attorney through a free consultation.

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Stock for Assets Business Acquisition

In a recent article, a Denver business attorney from The McGuire Law Firm discussed a cash for asset acquisition.  The article below will discuss a related type of transaction that is similar, but also quite different called a stock for assets acquisition.  A stock for assets acquisition may also be called “C Reorganization” and can be a tax free stock acquisition under the Internal Revenue Code.

In a stock for assets acquisition, Corporation 1 would provide common stock (as opposed to cash consideration) for the assets of Corporation 2.  Furthermore, Corporation 1 would assume all of Corporation 2’s liabilities.  Thus, the post transaction view of a stock for asset acquisition is similar to that of a stock swap merger.  After the transaction, Corporation 1 will not hold all Corporation 2 shares and Corporation 2 liabilities.

Depending upon the states that the corporations incorporated in, there may be general powers in the state corporate code that allows Corporation 1 to buy assets and for Corporation 2 to sell assets.  Additionally, other general powers may authorize Corporation 1’s assumption of Corporation 2’s liabilities.  However, the sale of all or substantially all of Corporation 2’s assets require specific authorization or steps and may require that the shareholders of Corporation 2 ratify the sale to Corporation 1.   What constitutes “substantially all” of a corporation’s assets may need to be determined based upon case law.  A Delaware case once determined the sale of substantially all corporate assets to be the sale of assets that is quantitatively vital to the operations of the corporation and would be out of the ordinary and substantially effects the existence and purpose of the corporation.  See Gimbel v. Signal Companies, Inc. (Del. Ch. 1974).  In terms of a Delaware law, another case once held that the sale of stock in a subsidiary was 68% of parent’s assets and primary income generating asset required a stockholder vote.  See Thorpe v. Serbco, Inc. (Del.1996). Certain codes or acts may replace the “all or substantially all of the corporate assets” with “a disposition that would leave the corporation without a significant continuing business purpose.  See MCBA Section 12.02.  This section also states a safe harbor where a significant continuing business purpose exists if the continuing business activity represents at least 25% of the total assets and 25% of either income (pre-tax) or revenue from pre transaction operations.

If your business is considering a transaction or acquisition, you can discuss your questions with a Denver business attorney and tax attorney from The McGuire Law Firm.  The McGuire Law Firm provides a free consultation to all potential clients to discuss your current business, tax and other legal matters.

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Denver City Taxes

If you are a business owner in Denver, the City and County of Denver has a number of different types of taxes that can be assessed by the treasury division and may apply to your business.  The article below has been prepared by a tax attorney from The McGuire Law Firm to provide additional information regarding some of these taxes.  Please remember to always contact your tax attorney regarding your specific circumstances.  You can speak with a Denver tax attorney by contacting The McGuire Law Firm.

Denver has an occupational privilege tax (OPT), which may also be referred to a head tax.  The OPT is made up of two parts or portions, those being the employee occupational privilege tax and the business occupational privilege tax.  The OPT is imposed on businesses that operating in the city of Denver and on individuals who perform sufficient services within Denver and thus receive compensation from an employer of at least $500 for a calendar month.  Every employee that is taxable (responsible) for the OPT is taxed at a rate of $5.75 which is withheld from the employee’s paycheck.  The employer is also responsible to pay the business portion of the OPT, which is $4.00 per month for each taxable employee.  These figures could be subject to change, please check for current tax amounts and thresholds.  The business is also responsible to pay $4.00 per month for any partner, owner or manager that is engaged in business in Denver.  The payment for a partner is due regardless of how much the individual is paid.

The city of Denver also imposes a sales tax through the Denver Revised Municipal Code (DRMC) of 3.62% on the purchase price paid or charged on retail sales, rentals of tangible personal property, leases and on other certain services.  An example of a taxable service would be the sale or furnishing of telephone and other telecommunication services.  There are other special taxes for the retail sales of food and beverages, aviation fuel, auto rentals and recreational marijuana.

A lodging tax applies for overnight hotel, inn or motel accommodations of 10.75%.  The definition of overnight lodging is relatively broad and would include an apartment, motor house, trailer and other forms of accommodations.

A consumer use tax is imposed on tangible personal property.  Tangible personal property could generally be defined as furniture, equipment, fixtures and supplies (but not inventory) that would be used, consumed or stored within Denver whereby local sales tax equal to or greater than the rate of Denver’s use tax has not been paid by the taxpayer.  Thus, a taxpayer may be credited for paying other use tax.

The city of Denver has a seat tax of 10%, which is imposed on the admission to any entertainment, amusement or athletic event that is held or conducted on any city owned property.

If you have any tax questions relating to the operation of your business, speak with a Denver tax attorney at The McGuire Law Firm.  You can schedule a free consultation with a tax attorney to discuss your questions and issues.

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