Liquidating Distributions & Shareholder Gain or Loss
At The McGuire Law Firm, a Denver business attorney and tax attorney can assist you with all types of business transactions from formation to sale. The article has been drafted by a tax attorney to discuss liquidating distributions from a corporation and tax consequences to the individual shareholders.
When a corporation liquidates, generally the monies due to the corporation are collected, corporate debts are paid and then cash and/or property is distributed to shareholders per their ownership interest in the corporation. These distributions of cash and/or property are considered liquidating distributions and are likely to receive different treatment than if distributed to a shareholder when the corporation was operating and intended to continue such operation.
Under IRC § 331(a), the amounts received by a shareholder through the complete liquidation of a corporation are treated as full payment in exchange for the shareholder’s stock. Therefore, the shareholder is afforded capital gains treatment regarding the liquidating distribution(s) assuming the stock is a capital asset under IRC § 1221, which it usually is.
As a capital gain, the amount of gain or loss will be determined by the shareholder’s basis in his or her stock, and whether the gain or loss is short term or long term will depend upon the shareholder’s holding period. If a shareholder owes a debt to the corporation and the debt is cancelled through the liquidation, the amount of debt owed by the shareholder is also treated as a liquidating distribution. The shareholder’s gain or loss must be computed on a per-share basis and therefore, gain or loss is calculated separately when stock was acquired a different times and for different prices.
When a shareholder receives multiple liquidating distributions, the shareholder can apply all of their basis first before reporting gain or loss. Therefore, shareholders may be able to defer the recognition of gain for multiple tax periods or years when they receive multiple liquidating distributions. In regards to recognizing a loss through multiples distributions, the loss is not recognized until the final distribution is received by the shareholder. If a shareholder is receiving payments from a third party note received by the corporation in a liquidating sale, the shareholder may be able to use the installment method when reporting gain.
The shareholder’s gain or loss will be the difference between the adjusted basis of their stock and the fair market value of the liquidating distribution. While the fair market value of cash distributed to a shareholder in a complete liquidation may be easily ascertained, issues arise when property is distributed to a shareholder through a complete liquidation. Appraisals may be necessary for certain tangible assets, but appraising certain intangibles may prove futile. If the value of certain assets cannot be ascertained with reasonable accuracy, the calculation with respect to these assets is left open until the assets are sold to a third party or an ascertainable value is available.
A Denver, CO tax attorney and business attorney at The McGuire Law Firm can assist clients regarding the liquidation of corporations and tax treatment.