Our Denver small business attorneys assist small to medium sized partnerships and corporations from formation and entity structure, to the sale of the business or business interests and all transactions while the entity is operating. Our business attorneys understand the nuances of small businesses and thus help the business owners regarding specific tax and business law issues and transactions as well providing insight on practical considerations. This allows the small business owner to make more educated business decisions.

Tax Attorney Discusses Substantial Economic Effect

Business owners may have heard about economic substance from their business attorneys or tax attorneys.  The Economic SubstanceDenver Small Business Attorney Doctrine is a “test” by which the Internal Revenue Service will review certain transactions.  As a Denver tax attorney John McGuire has dealt with the Economic Substance Doctrine first hand for a number of clients and this article may be used as general guidance regarding the doctrine.  We recommend you contact your business attorney or tax attorney with any specific questions regarding a proposed transaction.

Section 7701(o) of the Internal Revenue Code provides that transactions after March 30, 2010, a transaction will be treated as having economic substance only if: 1) the transaction changes in a meaningful way, aside from federal income tax effects, the taxpayer’s economic position; and, 2) the taxpayer has a substantial purpose, other than federal income tax savings to enter into the specific transaction.  The first part of the test is reviewed objectively and the second part of the test is reviewed subjectively.

The Internal Revenue Service has released a LB&I Directive, 4-0711-015 to be used by IRS examiners in determining whether the economic substance doctrine should apply to a transaction.

The directive provides the following factors and elements of which could cause the doctrine to likely apply:

 

1)            Transaction is promoted/developed/administered by tax department or outside advisors

2)            Transaction is highly structured

3)            Transaction includes unnecessary steps

4)            Transaction is not at arm’s length with unrelated third parties

5)            Transaction creates no meaningful economic change on a present value basis (pre-tax)

6)            Taxpayer’s potential for gain or loss is artificially limited

7)            Transaction accelerates a loss or duplicates a deduction

8)            Transaction generates a deduction that is not matched by an equivalent economic loss or expense (including artificial creation or increase in basis of an asset)

9)            Taxpayer holds offsetting positions that largely reduce or eliminate the economic risk of the transaction

10)        Transaction involves a tax-indifferent counterparty that recognizes substantial income

11)        Transaction results in separation of income recognition from a related deduction either between different taxpayers or between the same taxpayer in different tax years

12)        Transaction has no credible business purpose apart from federal tax benefits

13)        Transaction has no meaningful potential for profit apart from tax benefits

14)        Transaction has no significant risk of loss

15)        Tax benefit is artificially generated by the transaction

16)        Transaction is pre-packaged

17)        Transaction is outside the taxpayer’s ordinary business operations.

If the Economic Substance Doctrine applies to a transaction, certain tax allocations and/or benefits received by the taxpayer could be changed and/or reallocated by the Internal Revenue Service.  In short, the Internal Revenue Service can change the tax implications of  certain transactions because the transaction lacked economic substance.

As a Denver tax lawyer and business lawyer John McGuire is experienced in this relatively new doctrine that can have a large affect and impact on certain transactions you or your business may be considering into.  You can contact The McGuire Law Firm at anytime to schedule a free consultation and we would happy to meet with you.

Schedule your free consultation with a Denver tax attorney- Contact The McGuire Law Firm!

Tax Attorney Discussion: Partnership’s Assumption of Liabilities

As a tax attorney and business attorney, John McGuire frequently works with a partner within a partnership who contributes property to a Denver Business Attorneypartnership such as an LLC and the partnership assumes the liability on the property.  When this occurs, a tax attorney will advise the contributing partner that their basis is decreased by the sum of the liabilities assumed.  Furthermore, a partner’s basis is increased by their share of the partnership liabilities.  The examples below should help illustrate this piece of tax law.

For example, assume Joe and Mike form a partnership. Joe contributes property with a basis of $100,000 that is subject to a debt of $60,000, and has a fair market value of $150,000.  Mike contributes property with a basis of $40,000 and fair market value of $60,000.  Further, assume Joe and Mike are equal partners, each holding a 50% ownership interest in the partnership.  Joe’s adjusted basis would be $70,000, calculated: $100,000 basis plus $30,000 share of the $60,000 liability assumed by the partnership less the $60,000 liability ($100,000 + $30,000 – $60,000= $70,000).  Mike’s adjusted basis would be $70,000 as well, calculated: $40,000 basis plus $30,000 share of the $60,000 ($40,000 + $30,000).

Under the regulations for IRC Section 722, the tax basis of a partnership cannot be negative.  Therefore, if the liabilities assumed by the partnership exceed the contributing partner’s basis in the property the excess is treated as a distribution of cash.  For example, if Joe had an adjusted basis of $100,000 in property he is contributing to a partnership, with a $150,000 liability that is assumed by the partnership, the $50,000 of liability in excess of Joe’s basis would be treated as a cash contribution from the partnership to Joe.

Some partner’s have attempted to contribute a promissory note to the partnership to prevent the debt assumed by the partnership exceeding their adjusted basis in the contributed property.  The contribution of a promissory note to the partnership does not increase the contributing partner’s basis under IRC Section 722 because the basis in the promissory note would be $0.

The partnership will have a carryover basis and thus the basis in the hands of the contributing partner will be the partnership’s basis in the property contributed.  Further, the partnership’s holding period for the property contributed will include the contributing partner’s holding period if the property contributed is a capital asset or is IRC Section 1231 property.

Individuals forming a partnership or contributing property to a partnership should consult with their business attorney and/or their tax attorney to discuss the tax implications to their partnership interest and to the partnership.

Contact The McGuire Law Firm to schedule a free consultation with a tax attorney or business attorney in Denver.

5 Reasons to Hire a Denver Business Attorney

  1. Denver Business AttorneyA business attorney can help you form the proper entity or entity structure based upon the needs of your business. Further, through this process, your business attorney can explain to you the different liability protections afforded different entities and the different tax implications to the business and business owners based upon the choice of the business entity.  For example a C Corporation, S Corporation and Limited Liability Company (LLC) are all treated differently for tax purposes, and a fundamental understanding of the taxation of your business entity is a must to properly run and operate your business.  Further, your business attorney can explain the individual income tax issues that you as the business owner will need to consider.  Our Denver tax attorneys strive to educate our clients so they are aware of the tax implications created by their choice of entity.
  2. How should your business be financed?  Do you want more debt or equity interests in your business?  Your business attorney can help you understand what constitutes debt and equity, and the good & bad behind both debt and equity financing.
  3. Did you read and understand your lease agreement?  A business should always hire a business attorney to review and negotiate their lease agreement.  The vast majority of lease agreements are very “one-sided” in favor of the landlord and a business attorney may be able to help you negotiate more reasonable terms, as well as explain the terms of the lease agreement and your personal exposure to the lease agreement as an owner and likely guarantor of the lease agreement.  Buckingham & McGuire, LLC has business attorneys in Denver to assist with the review and negotiations of your lease agreement.  Our Denver business attorneys work to educate our clients regarding the pertinent lease provisions and protect our clients interest through the successful negotiating of certain provisions.
  4. You’ve heard the saying that death and taxes are the only 2 certainties in life.  While this may be true, if you own a business, there is also the certainty that as at some point during your life or at your death, you will need to sell, dispose of or otherwise transfer your business interests.  A Denver business attorney can help you establish a plan regarding the transfer or sale of your business or business interests in a manner that is most beneficial to you regarding your exposure to liability and in regards to the taxation of the transfer or disposition.  Your business attorney can also help in regards to the drafting of the purchase agreements and the necessary negotiations with the parties involved.
  5. As a business owner, you may want to establish retirement accounts for yourself and your employees.  A business attorney can assist you regarding the different options and tax benefits, as well as the reporting requirements for such compensation plans.

Contact The McGuire Law Firm to discuss your business issues with a business attorney!  Free consultation with a business attorney!

The Complete Liquidation of a C Corporation

The Complete Liquidation of a C Corporation Denver Business Attorney

Many business owners and shareholders of corporations will ask their tax attorney and/or business attorney, “what is a complete liquidation, and what are the tax implications to the C Corporation and the shareholders upon a complete liquidation?”  I always find it interesting, maybe even ironic that the term “Complete Liquidation” is not defined in the Internal Revenue Code, and nor is it defined in the applicable Section 331 regulations.  However, Federal Tax Regulations § 1.332-2(c) holds:

A status of liquidation exists when the corporation ceases to be a going concern and its activities are merely for the purpose of winding up its affairs, paying its debts, and distributing any remaining balance to its shareholders.  A liquidation may be completed prior to the actual dissolution of the liquidating corporation.  However, legal dissolution of the corporation is not required.  Nor will there mere retention of a nominal amount of assets for the sole purpose of preserving the corporation’s legal existence disqualify the transaction.

IRC § 346(a) also allows for a series of distributions that are pursuant to a plan of liquidation to constitute a formal liquidation of the corporation.  Therefore, it is apparent that a complete liquidation can occur without a formal dissolution and through a series of distributions.  The United States Tax Court generally applies a three part test in determining whether there was a plan to liquidate: 1) Was there a manifest intent to liquidate; 2) Was there a continuing purpose to terminate corporate affairs and dissolve; and, 3) Were the corporate affairs confined and directed to the purpose of liquidation.

Substance over form will control the analysis of whether a corporation has completely liquidated, and the facts will control this analysis.  If distributions are made to shareholders of the corporation before there is sufficient evidence to prove there was actual intent to liquidate the corporation, these distributions are likely to be treated as dividends in the eyes of the Internal Revenue Service as opposed to capital gain.

Shareholders receive a benefit through the complete liquidation because under IRC § 331(a), the amounts received by the shareholders are considered full payment in exchange for their stock, and therefore the shareholder receives capital gain treatment as opposed to a dividend distribution.  As a capital gain, the shareholder is able to use their basis in the stock to offset or lower the capital gain.  Further, this capital gain realized by the shareholder can be offset or lowered if the shareholder has other capital losses.

The earnings and profits of the corporation vanish when the corporation completely liquidates, whereas prior to the liquidation, the amount of the corporate earnings & profits was a figure that would have measured dividend distributions to the shareholders and had thus far, not been taxed at the individual level.   Therefore, when a corporation completely liquidates, the earnings and profits of the corporation “escape” taxation as dividend distributions to shareholders.

As a Denver tax attorney and business attorney, John McGuire of The McGuire Law Firm can assist corporations and shareholders regarding complete liquidations and the tax implications to the corporation & shareholders.

Contact The McGuire Law Firm to schedule your free consultation with a tax attorney and business attorney in Denver!

Effect of a Deficit Restoration Obligation by Tax Attorney

Effect of a Deficit Restoration Obligation Denver Business Attorney

A deficit restoration obligation is a partner’s unconditional obligation within a partnership agreement to restore any deficit balance in their capital account when the partnership liquidates.  The presence (or absence) of a deficit restoration obligation within a partnership agreement impacts which partners can be allocated losses & deductions generated by a partner’s equity or partnership recourse debt, but also the allocation of partnership liabilities under I.R.C. Section 752.  A Denver business attorney and tax attorney at The McGuire Law Firm assist partners and partnerships regarding partnership agreements including deficit restoration obligations within a partnership agreement.

 

Allocations within a partnership agreement are respected to the extent that the allocation has substantial economic effect or are made in accordance with the partner’s partnership interest.  When reviewing an allocation and the substantial economic effect, the 704 Regulations apply a three-part test.  As part of this test, capital accounts must be maintained in accordance with the 704 Regulations, liquidating distributions must be in accordance with positive capital account balances and each partner must have a deficit restoration obligation.

 

Under the 704 Regulations the value of property is assumed to be the basis of the property and not the actual fair market value of the property.  Further, stacking rules deem deductions to be funded first by those with the least rights to receive proceeds upon the sale of the assets.  In general, lenders or creditors have a higher priority right than do owners.  Thus, deductions that are generated from a partnership are considered to have first come from the partner’s equity (lower priority) than from partnership debt (higher priority).  The equity deductions can generally be allocated amongst the partners to the extent that such deductions do not create a negative capital account balance for the partner in excess of the partner’s actual or deemed obligation to make contributions to the partnership upon the liquidation of the partnership.  Therefore, when a partner agrees to a deficit restoration obligation within the partnership agreement, the partner is more or less allowed to be allocated a deduction that can be attributed to other partner’s equity.

 

For example, John, Mike & Joe form an LLC.  John and Mike contribute $50 each and Joe contributes $25.  The LLC purchases an asset with the $125.  The partnership agreement holds that profits are to be allocated per the monies contributed, but that losses are to be allocated 1/3 to each partner.  If Joe agrees to a deficit restoration obligation, he can receive the 1/3 allocation of the partnership’s net equity losses.  If Joe does not agree to the restoration, he can only receive his pro-rate share (20%) of the partnership’s net equity losses.

 

A Denver tax attorney at The McGuire Law Firm can assist you and your partnership regarding partnership taxation and transaction issues.

 

Contact The McGuire Law Firm to discuss your tax and/or business questions!  Free consultation with a tax attorney and business attorney!

Transfers of Property to a Corporation In Exchange for Stock

Transfers of Property to a Corporation In Exchange for Stock Denver Business Attorney

A Denver tax attorney and business attorney at The McGuire Law Firm can assist clients with the formation and structure of corporations.  The article below outlines the tax implications when contributing property to a corporation in exchange for stock.

Many business owners inquire as to their gain or loss recognition when contributing property to a corporation in exchange for stock, as well as the implications to the corporations.  While certain business transactions may require the recognition of gain or loss, it is possible for gain or loss to be avoided.

 

In general, a corporation does not recognize gain or loss upon the issuance or sale of its own stock under IRC Section 1032.  Although, IRC Section 1001 treats the transfer of property for stock in a corporation as a sale where gain or loss is recognized under IRC Section 1002, IRC Section 351 may be able to avoid this gain recognition.

 

For IRC Section 351 to apply one or more persons must transfer property to a corporation; the transfer must be solely in exchange for stock in such corporation; and, the transferors must control the corporation immediately after the transfer and “control” is defined as 80% or more under IRC Section 368(e).  If Section 351 does not apply, gain or loss will be recognized under Section 1001.  Furthermore, Section 351 is mandatory and not an election.

 

The statute does not define “property” but “property” includes cash as well as tangible and intangible property.  Regarding intangible property, if the property has value separate and apart from the existence of the business, it is considered property.  It is important to note that services are not considered property; however, the stock issued for the performance of services does not necessarily cause the transfer to fail to qualify as a Section 351 transfer.  Under such circumstances the person receiving the stock for the performance of services is not counted or considered when the 80% control requirement is calculated.

 

If non-qualified preferred stock is issued by the corporation, this non-qualified preferred stock is treated as “boot” for purposes of gain when received in exchange for property that is transferred to a controlled corporation.

 

The Receipt of “Boot”

 

If a shareholder (transferor) receives money or property in addition to the stock, this money or property is considered “boot.”  If a shareholder does receive boot through the transaction, gain is recognized at the lesser amount of the realized gain or the boot received.   The receipt of a short term note or certain stock rights and warranties would be considered boot, but debt is not considered boot although it would lower basis.

 

Contact a tax attorney and business attorney at The McGuire Law Firm to assist you with the formation and structure of business entities as well as the tax implications to the business & business owners.

 

You can schedule a free consultation with a small business attorney in Denver by contacting The McGuire Law Firm.    John@jmtaxlaw.com

 

 

5 Reasons to Hire a Denver Business Attorney

Denver Business Attorney Denver Small Business AttorneyAt The McGuire Law Firm,  a Denver business attorney can assist you on a number of issues and on an ongoing basis as your business grows.  Below are situations in which you may wish to consult with a Denver business attorney at The McGuire Law Firm.

  1. A business attorney can help you form the proper entity or entity structure based upon the needs of your business. Further, through this process, your business attorney can explain to you the different liability protections afforded different entities and the different tax implications to the business and business owners based upon the choice of the business entity.  For example a C Corporation, S Corporation and Limited Liability Company (LLC) are all treated differently for tax purposes, and a fundamental understanding of the taxation of your business entity is a must to properly run and operate your business.  Further, your business attorney can explain the individual income tax issues that you as the business owner will need to consider.
  2. How should your business be financed?  Do you want more debt or equity interests in your business?  A Denver business attorney at our office can help you understand what constitutes debt and equity, and the good & bad behind both debt and equity financing.
  3. Did you read and understand your lease agreement?  A business should always hire a business attorney to review and negotiate their lease agreement.  The vast majority of lease agreements are very “one-sided” in favor of the landlord and a business attorney may be able to help you negotiate more reasonable terms, as well as explain the terms of the lease agreement and your personal exposure to the lease agreement as an owner and likely guarantor of the lease agreement.
  4. You’ve heard the saying that death and taxes are the only 2 certainties in life.  While this may be true, if you own a business, there is also the certainty that as at some point during your life or at your death, you will need to sell, dispose of or otherwise transfer your business interests.  A business attorney can help you establish a plan regarding the transfer or sale of your business or business interests in a manner that is most beneficial to you regarding your exposure to liability and in regards to the taxation of the transfer or disposition.  Your business attorney can also help in regards to the drafting of the purchase agreements and the necessary negotiations with the parties involved.
  5. As a business owner, you may want to establish retirement accounts for yourself and your employees.  A business attorney can assist you regarding the different options and tax benefits, as well as the reporting requirements for such compensation plans.

Contact The McGuire Law Firm to schedule your free consultation with a Denver business attorney.