Comprehensive Review of Your Rights to a Collection Due Process Hearing Before the IRS

Under certain circumstances and upon the Internal Revenue Service issuing certain collection notices, you have the right to request a Collection Due Process Hearing. Requesting and holding a Collection Due Process Hearing before the IRS Appeals Office can be a very beneficial tool in resolving an outstanding tax liability. The article below provides detailed information relating to a Collection Due Process Hearing.

What is a Collection Due Process Hearing?

A Collection Due Process Hearing is a right afforded to a taxpayer when the IRS has proposed a levy or enforcement action to collect on a tax debt. The hearing allows the taxpayer to work with an impartial appeals officer towards a collection alternative to resolve the debt as opposed to the proposed levy action by the IRS.

When Can a Taxpayer Request a Collection Due Process Hearing?

The most common time a taxpayer has the right to request a Collection Due Process Hearing is upon the IRS issuing a Final Notice of Intent to Levy. A Final Notice of Intent to Levy is also known as Letter 11 (L 11) or Letter 1058 (L 1058). A taxpayer has 30 days from the date on the Final Notice of Intent to Levy to request the hearing.

How Does a Taxpayer Request a Collection Due Process Hearing?

The taxpayer makes the request by filing Form 12153 with the service center or revenue officer who issued the Final Notice of Intent to Levy. Form 12153 is completed with the taxpayer’s general information, the tax periods of which the Final Notice of Intent to Levy was issued upon or included on the notice, the reason the hearing is being requested, and the proposed collection alternative. The hearing request can be faxed and/or mailed to the appropriate party within the IRS.

What Are the Benefits or Potential Benefits of Requesting a Collection Due Process Hearing?

While there are many benefits to requesting a Collection Due Process Hearing, perhaps the biggest or most advantageous benefit is the stay or hold on enforcement action that is afforded the taxpayer when a timely hearing request is filed. When a taxpayer timely requests a collection due process hearing, there is an automatic hold on IRS collection actions such as bank levies, wage garnishments, and other asset seizures. Please note that the automatic stay on enforcement action may not apply when the taxpayer owes 941 employment taxes and the taxpayer is not in compliance with the current quarter. This stays on enforcement, which allows the taxpayer time free of levies and seizures to prepare for the hearing and make a proposal to resolve the outstanding tax liability based upon their current financial circumstances.

Once a Collection Due Process Hearing is Requested, What Can I Expect?

Generally, the taxpayer will receive a notice from the IRS Appeals Office within 30-60 days from requesting the hearing that their hearing request has been received, and an appeals officer will contact the taxpayer once assigned to the case. Thereafter, the taxpayer will receive a notice from the appeals officer assigned calling an initial hearing or conference date. The initial hearing or conference date can be adjusted by the taxpayer, but the taxpayer must contact the appeals officer to reschedule the hearing date. The notice from the appeals officer will generally request additional information the taxpayer wishes to present and produce during the hearing relating to the resolution proposal the taxpayer is proposing. This information could be financial statements and information relating to an installment agreement, an offer in compromise, or perhaps a request that the liabilities be placed in a currently non-collectible status.

What is the Procedure or Process of Working With the IRS Appeals Office?

First, the appeals officer will verify that the IRS has taken all required and legal steps towards a collection of the debt and that the taxpayer has received their proper due process. Further, the appeals officer verifies that they have had no prior involvement with the applicable case or taxpayer and are a true impartial party to the matter. Upon establishing the hearing or conference date, the taxpayer will need to compile the necessary information, documents, and statements to submit to the appeals officer along with their proposal to resolve the tax liability. If the taxpayer was an individual and owed individual income tax, they would draft an individual collection information statement, also known as Form 433A, and compile all of the necessary attachments such as W-2s, income statements for self-employment income, bank statements, current statements for stocks, bonds, 401(k)s, mortgage statements, etc., to verify the income, expenses, and assets stated on the financial statement. If the taxpayer was a business or the applicable individual owned a business, the taxpayer would also need to compile Form 433B, which is a collection information statement for businesses. The taxpayer would use the financial statements and documents to propose an installment agreement or request their liabilities be placed in a non-collectible status. A taxpayer can also request a settlement, known as an offer in compromise, through the hearing process. If a taxpayer requests an offer in compromise through the hearing process, the offer will be submitted by the appeals officer (usually) to the IRS Offer in Compromise Unit, and the appeals officer will maintain the file while the IRS Offer in Compromise Unit makes an initial determination on the offer. If the determination on the offer needs to be appealed to the appeals office and the taxpayer appeals the initial offer determination, the appeals officer will then have control or jurisdiction of the appeal. Inevitably, through the appeals hearing process, the appeals officer will make a determination relating to a resolution of the liabilities.

What Are the Potential Outcomes of Holding a Collection Due Process Hearing?

The outcome or determination issued by the appeals officer through the hearing process may be dictated by the resolution proposed by the taxpayer. If the taxpayer has proposed an installment agreement and the appeals officer and taxpayer agree on the terms and conditions of an installment agreement, the appeals officer will issue a determination that an installment agreement has been reached, and thus, the levy action proposed by the IRS is not sustained. In short, if the taxpayer and appeals officer come to a collection alternative, then the appeals officer will issue their determination stating the agreement that has been reached and that collection action is not sustained. However, if an agreement or resolution cannot be agreed upon with the appeals officer, the determination made by the appeals office will state that the proposed levy action by the IRS is sustained, and thus, the taxpayer is open to enforcement such as levies once the file or case is returned to IRS Collections or the IRS revenue officer.

What if I am Unable to Establish a Formal Agreement Through the Collection Due Process Hearing?

If you cannot come to an agreement with the appeals officer, it does not mean an agreement is not possible. You are still able to enter into an installment agreement or submit an offer in compromise through the IRS Offer Unit, but you would do so outside of the context of the appeals hearing or appeals office. The key would be to work on formalizing or proposing an agreement as quickly as possible after the appeals hearing concludes because, technically, once the matter is back before the IRS Collections Department or the revenue officer, you are subject to enforcement because there is no longer a stay or hold on enforcement.

What is the FBAR?

The U.S. government requires individuals to file a document called the Foreign Bank Account Report (FBAR) with the Financial Crimes Enforcement Network (FinCEN). It is designed to ensure that foreign assets and income are correctly reported, helping the Department of Treasury track the activities of U.S. citizens, residents, and businesses and ensure that foreign income is accurately taxed in the United States.

Who Must File an FBAR?

A U.S. person, which includes citizens, residents, corporations, trusts, partnerships, limited liability companies, and estates, must file an FBAR under certain circumstances. This situation occurs when a person in the US has a financial stake in or control over a financial account located outside of the country, and the combined worth of all the foreign accounts is over $10,000 (in US dollars) at any point during the year.

It’s important to note that the foreign financial account does not need to generate income or taxable income for the account to trigger the need to file the FBAR. If the balance of all foreign financial accounts exceeds the $10,000 threshold, each foreign account or asset must be reported, regardless of whether you received income from the foreign account and no matter how small or low the account’s value may be.

FBAR Compliance and Filing

Ensuring compliance with FBAR filing requirements is crucial. The FBAR report must be submitted annually by April 15th for the previous year. In case you miss the due date, you can get an extension until October 15th without having to make a request for it. There’s no need to file for an extension separately for the FBAR.

The FBAR is not filed with your individual tax return. Instead, you file the FBAR electronically through FinCEN’s E-filing system. You may be able to paper file the FBAR, but to do so, you must receive an exemption to E-filing from FinCEN. You are allowed to have a third-party file your FBAR on your behalf.

To properly file your FBAR, you will need the following information:

• The taxpayer’s name, address, date of birth (if an individual), social security or employer identification number
• Name on the foreign account
• Name and address of the foreign bank or financial institution
• Account number or identifying number for the foreign account
• Type of account or foreign asset
• The maximum value in U.S. dollars of the account during the year.

All foreign financial accounts are generally reported on one FBAR, even if the accounts are held only by you or jointly.

While the law does not require any specific record-keeping for the FBAR, it is highly recommended that you keep all of your forms or statements to verify the information stated on the FBAR and the exchange rate you used if you converted foreign currency into U.S. dollars.

Penalties for Non-compliance

Failure to comply with FBAR filing requirements can lead to severe penalties. Both civil and criminal penalties can apply when an FBAR is not timely filed.If you fail to file the FBAR, you may be penalized up to 50% of the account or asset value that was not reported.This means you could lose up to half of the value of your foreign account or asset by not filing the FBAR.

Other Foreign Compliance Forms

If you are reporting foreign assets on the FBAR, you may also have the requirement to report these assets elsewhere. If you have a foreign bank account, there are boxes on Schedule B that may need to be checked. Additionally, you may have income to report on your Schedule B. Other common forms to report foreign assets include Form 8938, Form 3520 or Form 3520A, or Form 5471. The specifics surrounding your foreign asset reporting will dictate the form or forms you need to file and how and where the forms need to be filed.

What If I Have Failed to File FBARs for One Or Multiple Years?

If you have not filed your FBARs and are not already under an investigation by the Department of Treasury, you may be able to file your FBARs and other foreign compliance forms and unreported foreign income through specific programs with a lesser penalty. These programs include the Streamlined Offshore Voluntary Disclosure Program (Streamlined OVDP), and the IRS has a Delinquent International Information Return Submission Program. These programs differ, and weighing your options and potential outcomes with your specific facts and circumstances is essential.

Taxation on Foreign Income from FBAR Accounts or Assets

Foreign income is taxable and would be included on the appropriate form or schedule on your tax return and thus subject to U.S. tax. For example, interest from a foreign bank account would be reported just like interest from a U.S. bank and subject to ordinary income tax.

What If I Have Already Paid Tax To A Foreign Country?

If you paid taxes to a foreign country, you might be eligible for the foreign tax credit. This credit allows you to apply all or part of the tax you have already paid to your total tax bill. Form 1116 is completed to claim the foreign tax credit.

FBAR Updates

As of July 1st, 2013, the electronic version of the FBAR is currently available and must be filed electronically. This is part of FinCEN’s efforts to streamline the filing process and make it more efficient.

In addition, FinCEN has provided some relief to victims of recent natural disasters, allowing them more time to meet their FBAR filing obligations. This is a reminder that the government considers extraordinary circumstances that may affect taxpayers’ ability to file on time.

Conclusion

If you have any questions about whether you have an FBAR filing requirement or have the FBAR filing requirement and have not filed, it is highly recommended that you speak with a tax professional, preferably one specializing in international tax compliance, to determine your compliance requirements and options. FBAR compliance is critical and can lead to hefty civil and criminal penalties.

Form 5471 is an information reporting form the must be filed with a taxpayer tax return when they meet certain ownership amounts of foreign corporations.

Broadly speaking, the form reports who owns the foreign corporation, the current year financial information of the foreign corporation, information related to subpart F and GILTI inclusions (discussed below), and the characterization of earnings impact of the corporation on the U.S. Shareholders.

Who has to file form 5471:

Generally speaking, U.S. Shareholders have to file form 5471. The annual filing requirements depend on how much of the foreign corporation is owned. There are instances where a person who owns no interest in a foreign corporation must file a form 5471, for that discussion, see Category 2 filer below.

Who is a U.S. Shareholder?

A U.S. Shareholder is a U.S. Person (individual, corporation, partnership, trust, estate) who owns 10% or more of the voting rights of a foreign corporation and/or who owns 10% or more of the value of a foreign corporation.

There is a separate rule when the foreign corporation is an insurance company. In that instance, a person will be a U.S. Shareholder if it owns ANY shares of the foreign corporation.

Do all U.S Shareholders have to file a form 5471?

The fast and terrible answer to this question is: it depends.

The form 5471 is required when a person (again individual, corporations, partnership, trust, estate) meets the requirements of one of several categories of filers for form 5471.

The current form 5471 category filers are broken out into the following categories:

• Category 1a, 1b, 1c
  • Dealing with persons who are U.S. Shareholders of foreign corporations who were a Section 965 specified foreign corporation during the tax year including instances of constructive ownership.
• Category 2
  • Dealing with U.S. individuals who are officers or directors of a foreign corporation in a year when a U.S. Person acquires 10% of the foreign corporation or acquires enough shares to exceed the 10% ownership threshold to become a U.S. Shareholder (as defined above).
  • Notably, the director or officer does not have to own any interest in the foreign corporation for the filing obligations to exist and mee the requirements of a Category 2 filer.
• Category 3
  • Dealing with U.S. persons when they acquire or dispose of shares in a foreign corporation such that that person becomes a U.S. Shareholder, stops being a U.S. Shareholder or adds 10% to their current holdings. It also covers when someone owing 10% or more becomes a U.S. person.
• Category 4
  • Dealing with U.S. persons who are in control of a foreign corporation. That means they own, directly, indirectly or constructively 50% or more of the foreign corporation.
• Category 5a, 5b, 5c
  • Dealing with U.S. persons who are U.S. Shareholder of a controlled foreign corporation. This includes certain constructive owners of controlled foreign corporations.

A U.S. person can fall into multiple categories per year.

There is a larger discussion of the category filers in this article (Link to other 5471 article) that also discusses constructive ownership rules.

There are several exceptions to the form filing obligations, so ensure you are taking those into account when making filing determinations.

If you meet one or more category filers, do you have to file every year you own the interest in the foreign corporation?

Not all U.S. Shareholders will need to file a form 5471 every year they are U.S. Shareholders. In any year that you meet the requirements of any of the Category filers, you will likely have a filing obligation if you don’t meet any of the exceptions.

As an example, in year 1 you (a U.S. individual) bought 15% of a foreign corporation. You are the only U.S. person who owns shares in the company. You are not related to any other shareholders. Since you now own more than 10% of the foreign corporation you are a U.S. Shareholder. In year 1 you have a form 5471 filing obligation as a Category 3 filer.

In year 2, you have not bought any more shares, and all the shareholders are the same. In year 2 you do not meet any of the category filer requirements and do not have a form 5471 filing obligation.

In continuation of the above example, if in year 3 you purchase an additional 15% of the foreign corporation (brining your total ownership to 30%) AND two other U.S. persons each bought 15% of the foreign corporation (30% total), you become a Category 1a, 3 and Category 5a filer. Thus, you will have a form 5471 filing obligation in year 3.

If in year 4 none of the facts change and the foreign corporation has three U.S. shareholders owning a collective 60%, the entity is considered a controlled foreign corporation and the form 5471 is required to be filed by U.S. Shareholders.

The important point to remember when owning shares in a foreign corporation is that you must review your holdings and the holdings of other shareholders annually to determine if you have a form 5471 filing requirement.

Why do you have to file form 5471?

The form 5471 is required to be filed as outlined in the U.S. tax code. The information provided allows the IRS to make determinations on a U.S. persons offshore investments and if any income should be included in the taxpayer U.S. tax base.

Broadly speaking, the form 5471 and the requirement to file the 5471 has no direct impact on a U.S. taxpayers taxable income. That being said, the form does require the taxpayer to report their proportionate share of Subpart F income and tested income.

What is Subpart F income and what is the point of computing tested income?

A detailed discussion of Subpart F income and tested income are beyond the scope of the article, but each play a key role with respect to form 5471.

Subpart F income is income earned by the controlled foreign corporation (Category 5a, b, c filing for U.S. Shareholders) that is not able to be deferred from U.S. income inclusions by U.S. shareholders. Very loosely, it is passive types of income and income earned in a company whereby that company hasn’t done any of the work to earn that income. Net earnings and profits of that type is required to be treated as if it were earned by the U.S. shareholders directly and is included in the U.S. shareholder taxable income.  When a controlled foreign corporation has this type of income, it needs to be reported on the form 5471 and allocated appropriately to the U.S. Shareholders. Subpart F income is reported on Schedule I, J, P, and Q of the form 5471.

Tested income is used in computing the U.S. Shareholder amounts of Global Intangible Low Tax Income (GILTI). GITLI is another anti-deferral mechanism that prevents the earnings of a controlled foreign corporation from not being included in U.S. Shareholder taxable income. GILTI broadly treats all income of a controlled foreign corporation as if it were earned by the U.S. Shareholders directly and thus includable in their taxable income. Tested income is computed on Schedule I-1 of the form 5471.

Subpart F and GILTI are complicated topics that deserve their own discussions. There are numerous rules that impact the calculation and requirements of each. Suffice to say, if the entity you own an interest in is a controlled foreign corporation and you are U.S. Shareholder, careful attention must be paid to Subpart F income and GILTI income.

Do you have to file form 5471 if the entity you own is inactive or loses money?

Yes, mere ownership of the entity creates the filing obligation.

How do you file form 5471?

If you meet one of the categories of filers for the form 5471, you will need to complete the sections that are required of that specific category filer and attach it to your timely filed tax return. The form will be considered timely filed if it attached to your tax return which was timely filed including extensions. The form 5471 will need to be substantially complete to be considered timely.

If you fall into multiple category filer status, you need to file just one form 5471 per entity reporting all the information for each category you meet.

What happens if you don’t/didn’t file form 5471 or you file it late?

Failure to file form 5471 is subject to penalty. There is a monetary penalty of $10,000 for failure to file the form 5471. With this form, late filing is considered failure to file and subject to penalty. There is an additional $10,000 penalty for failure to file form 5471 Schedule O as well.

If you have not filed form 5471 and are required to do so you should contact our firm to discuss your options and the application of any penalties. We work with clients on their delinquent filings to assist with preventing or abating the penalty on late filings of form 5471.

Other considerations?

If you have a form 5471 filing obligation you may have other information reporting forms to file as well. Additional filings that may apply could be:

• Foreign Bank Account Reporting (FBAR)
• Form 8938 foreign financial asset reporting
• Form 8865 foreign partnership reporting
• Form 926 contributions to foreign corporations
• Form 8858 foreign branch and disregarded entity reporting
• Form 8992 GILTI reporting
• Form 8621 Passive Foreign Investment Company (PFIC) reporting

Updates on Form 5471

In recent years, there have been some updates to Form 5471 that are worth noting. The IRS has made revisions to the form and its instructions to ensure that they remain current and accurate. These changes are designed to make the form easier to understand and fill out, and to ensure that it accurately reflects the current tax laws and regulations.

One of the key updates is the revision of Form 5471 and its separate Schedules E, G-1, H, I-1, and M in December 2021. The separate Schedules J, P, Q, and R were revised in December 2020, and the separate Schedule O was revised in December 2012. These revisions are part of the IRS’s ongoing efforts to keep the form and its schedules up to date with the latest tax laws and regulations.

Another important update is the requirement to report all information in functional currency in accordance with U.S. generally accepted accounting principles (GAAP). Each amount must also be reported in U.S. dollars translated from functional currency using GAAP translation rules. This change is designed to ensure that all financial information reported on Form 5471 is accurate and consistent.

The IRS has also updated the instructions for Form 5471. These instructions provide detailed guidance on how to fill out the form and its schedules. They include information on who needs to file Form 5471, what information needs to be reported, and how to report it. The instructions also provide examples to help taxpayers understand how to fill out the form correctly.

It’s important to note that these updates are part of the IRS’s ongoing efforts to improve the tax filing process and ensure that all taxpayers are reporting their foreign investments accurately. If you’re a U.S. person with ownership in a foreign corporation, it’s crucial to stay up to date with these changes to ensure that you’re meeting your tax reporting obligations.

Common Use for a Forward Triangular Merger

One standard method used is a forward triangular merger, or as some people refer to it, an indirect merger under Section 368(a)(2)(D) of the Internal Revenue Code. This type of merger is beneficial when a parent corporation is looking to purchase or acquire another entity, known as the target corporation, but is hesitant to inherit any liabilities or other negative aspects of the target. 

In a traditional A reorganization under Section 368(a)(1)(A), the target corporation merges directly with the acquirer. At this point, the acquirer is responsible for all liabilities associated with the target. Therefore, the purchasing corporation may often structure the transaction as a forward triangular merger rather than a traditional A merger by using a subsidiary to protect against any known or unknown liabilities the target may have. A Denver business attorney has prepared the article below to provide additional information on a forward triangular reorganization.

Where Forward Triangular Mergers are Prevalent

Forward triangular mergers are also prevalent where entities plan to use a significant amount of cash, or boot, in the deal.

Unlike reverse triangular mergers, forward triangular mergers have greater flexibility in the amount of boot that may be used in the transaction since the 80% voting requirement does not apply under Section 368(a)(2)(D) for purposes of consideration.

For example, consider Corporation P, which would like to acquire Corporation T. However, Corporation T has a massive liability on its books that Corporation P is hesitant to accept. Corporation P will first set up another entity called a subsidiary. The Corporation T is the target corporation and will then merge into a subsidiary, rather than Corporation P, for consideration provided by Corporation P. The target corporation ceases to exist and thereby liquidates. At this point, the only surviving corporation in the merger is the subsidiary. Thus, the shareholders of Corporation T will ultimately receive the consideration provided by Corporation P. This structuring allows the target’s liabilities to remain isolated within a subsidiary while simultaneously allowing the purchasing corporation to acquire the target, Corporation T. 

Note that even though this may be considered a tax-free reorganization, there may still be tax consequences to the target corporation’s shareholders upon liquidation, depending on the amount and type of consideration used in the transaction (See Internal Revenue Code Section 354).

Three Critical Things to Remember in a Forward Triangular Reorganization

 First, this transaction only qualifies for tax-free treatment if it would have satisfied the requirements of a traditional A reorganization under Section 368(a)(1)(A) had the merger been done directly between the purchasing corporation and the target corporation. This requires evaluating the transaction as if the subsidiary were not used. If the target merged into the purchasing corporation and still satisfied the A reorg requirements, then this would help Section 368(a)(2)(D)(ii). This requires a statutory merger and, even more importantly, continuity of interest requirements.

Second, in Section 368(a)(2)(D) reorganization, no stock of the wholly-owned subsidiary entity may be used as part of the consideration in the transaction. The only stock acquisition of the purchasing corporation, Corporation P in the above example, may be used. However, other reviews from the subsidiary may be provided, such as cash. Suppose the stock of the wholly-owned subsidiary corporation is used. In that case, it will fail the requirements of Section 368(a)(2)(D) and may result in a taxable transaction unless it satisfies another reorganization structure under Section 368.

Finally, according to the treasury regulations under 1.368-2, the purchasing corporation must substantially acquire all of the target’s assets by using the subsidiary.

Forward triangular reorganizations optimize restructuring without facing tax consequences while removing the transfer of a target’s liabilities to a parent corporation. Depending on the type and value of consideration available, a forward triangular reorganization may be the best restructuring tool for your merger.

Key Takeaways

• A forward triangular merger is a form of reorganization that provides a means to avoid the potential tax consequences of acquiring a company with substantial liabilities. It accomplishes this by merging the target with a subsidiary of the acquiring corporation. The target corporation ceases to exist and is liquidated. The sole remaining corporation is the subsidiary.
• The IRS considers a forward triangular merger to be a reorganization because it satisfies the definition of a reorganization found in Section 368(a).
• However, the IRS does not allow a forward triangular merger to qualify as a tax-free reorganizational event unless the following conditions are met:
  • The acquiring company must pay fair market value for the target company’s assets.
  • The target company continues to operate after the acquisition.
  • The acquired company ceases to exist and is liquidated.

You can contact The McGuire Law Firm to discuss your business or tax-related issues with a Denver business attorney or tax attorney. 

Non-recourse debt means that if the debtor defaults, the creditor cannot pursue the debtor personally. Instead, the creditor must seek recovery from the collateral securing the loan. The creditor can file a suit against the borrower if the collateral does not cover the debt. However, if the collateral covers the debt, the lender will likely agree to accept less than the total amount owed.

With recourse debt, the creditor can come after you and your assets if you fail to repay the loan. If you default, the creditor can seize your property, including any real estate you own and sell it to recover the amount owed. Non-recourse debt does not allow the creditor to go after you if you default on an obligation. Instead, the creditor can only get back what he paid for the asset. For example, if you bought a house using a mortgage, the bank cannot come after you for the unpaid portion of the mortgage. However, if you default on the mortgage, the bank can foreclose on the house and sell it to recover its losses.

Concerns when Obtaining Property Subject to Non-Recourse Debt

A second concern arises when considering acquiring property subject to a non-recoverable debt. You must first determine if the non-recourse liability is included in the purchase price. If so, you must also consider whether the non-recoverable responsibility is part of the sale proceeds. The cornerstone case for both of these questions comes from Crane v. Commissioner, 331 U.S. 1 (1947), which was decided in 1947 by the United States Supreme Court.

The basis of a property is the price paid for the property when you bought it. If you buy a house for $100,000, the basis is $100,000. You can deduct any increase in the value of the home during the year from your taxable income. For example, if you sell your house for $200,000, you get a capital gain of $100,000 ($200,000 – $100,000) and pay taxes on half of that gain ($50,000), leaving you with a $50,000 net profit. A higher basis means you can claim more significant deductions for depreciation, interest, and other expenses.

Non-recourse debt is usually considered when you buy a house. You must pay back the loan plus interest if you borrow money to buy a home. If you default on your loan, the bank may seize your assets. However, if you own your house free and clear, you won’t owe any money if you fail to repay the loan. You’ll still have to pay taxes on the gain, but there won’t be any penalties for failure to repay the loan.

In general, if you borrow money against your residence, the basis should be the property’s fair market value at the time of the loan. If you borrow money against your business real estate, then the basis should reflect the fair market value of your business real estate at the time of the borrowing. However, there are exceptions to this rule. You may be able to exclude certain types of debt from the basis of your property. For example, if you borrow money to pay for improvements to your property, the amount borrowed does not become part of the basis of the property. Similarly, suppose you borrow money to purchase an asset that is held primarily for sale to customers in the ordinary course of business. In that case, the amount borrowed is excluded from the basis of the asset.

Key Takeaways

A recourse loan is a type of credit instrument where the lender has recourse against the borrower if there is an event of default. A non-recourse loan is a type of loan where the lender does not have recourse against the borrower if the loan goes bad. Non-recourse loans are often associated with real estate lending because real estate is considered a safe asset. However, non-recourse loans are also used in other industries, including finance, manufacturing, and construction.

Non-recourse loans allow borrowers to borrow up to the value of the property. If the borrower defaults, the bank cannot pursue them for the remaining amount. As a result, banks charge higher interest rates on these types of loans to cover the increased economic risk. In the United States, loan-to-value ratios for residential mortgages are generally capped at 80%.

Special Considerations

Non-Recourse debt is an investment strategy involving borrowing money at low-interest rates and then investing those funds in projects that will generate returns later. These investments are made without guaranteeing that the borrower will repay the loan. If the project fails, the lender does not lose anything because they did not put any money down. On the other hand, if the project succeeds, the lender gets paid back plus interest.

For more information speak with a Denver business attorney at The McGuire Law Firm, call 720-833-7705.

Reorganization is a term used when a company changes its structure. A reorganization differs from a merger or acquisition because it does not involve merging two companies. Instead, it consists in changing the legal form of a corporation. Reorganization is also different from liquidating a company because it doesn’t involve selling all of the company’s assets. Reorganization is done to change the corporate structure of a company. For example, if a company wants to expand its operations, it may restructure itself by creating a subsidiary instead of growing through mergers and acquisitions.

The article below has been prepared by a Denver business attorney and tax attorney to discuss a few issues related to tax-free reorganizations.

What Are The Types Of Reorganization?

An acquisitive reorganization occurs when one company buys out another. These transactions are often referred to as “acquirers” and “target companies.” Acquirers may acquire target companies through mergers, acquisitions, asset purchases, stock purchases, or other means. Acquisitions are usually motivated by strategic goals such as growth, expansion, diversification, or cost reduction. Acquirers may seek to achieve these goals through organic development, acquisition, divestiture, or other means.

Acquisitive Reorganization

Acquisition deals are often done through mergers or acquisitions. Mergers are when two companies combine to form a single company. Acquisitions are when two companies combine to create a larger company. Both mergers and acquisitions can be made privately or publicly. A private equity firm usually makes private acquisitions. An investment bank usually makes public acquisitions.

A type B reorganization is when an investor buys out a minority shareholder. If the investor owns more than 50 percent of the shares, then the investor must buy out the remaining shares at fair market value.

A type C reorganization is when a company sells all of its assets to another company. Then the seller liquidates (IRC §368(a)(1)(c)). This is called a boot because the buyer gets a cash infusion.

A type D acquisition occurs when a company buys another company. If the buyer controls 80% of the shares of the acquired company, then the acquirer will be called a Type D Acquirer. A type D acquisition is different from a merger because there is not always a change in ownership. For example, if a company sells 10% of its shares to another company, that does not mean that the original owner of those shares sold them to someone else. Instead, the original owner still owns 90% of the claims.

A triangular reorganization is when a company changes its structure by merging with another company, acquiring another company, or selling a division of itself. These types of reorganizations can be classified as triangular reorganization (excluding reorganization type E), depending on whether there is an intermediary party. Type A involves a target corporation, a corporate parent, and a subsidiary, while type B consists of a target corporation, an investor, and a subsidiary. Type C involves a target corporation, two investors, and a subsidiary.

Divisive Reorganization

A split-off is when a company splits itself into two separate companies. The parent company will buy back its stock from the shareholders, giving them a controlling interest in the new company.

A spin-off is when a parent company sells a portion of itself to create a separate company. A spin-off may involve selling an asset or division of the parent company to another company. For example, a company might sell the factory to another company if it has a manufacturing plant. Or, if a company owns a patent, it might sell the patent to another company.

A split-up is when an existing company splits into two or more smaller companies. This happens when the shareholders vote to dissolve the old company and distribute its assets among the shareholders. Each shareholder receives a share of the new company’s stock. If the shareholders agree to form two or more new companies, then each shareholder will receive a percentage of each new company’s stock.

Restructuring Reorganization

Restructuring is an event that changes the legal structure of a company. It may involve changing the number of shares outstanding, the type of ownership, or the amount of debt. For example, if you own 100% of a company, you might sell your shares to someone else. You could buy out the other half if you own 50% of a company. Or, you could change the debt ratio. You could increase the amount of debt, decrease the amount of equity, or even eliminate the deficit.

A type F restructuring is when you change your legal structure. You could change your name, your address, or even your country. If you move your company to another country, you must file an application with the local government. This is called a type F restructuring.

Bankruptcy Reorganizations

A bankruptcy reorganization is when a company transfers its assets to another company. These events are usually triggered when a company cannot pay all of its debts. Bankruptcy reorganizations are often done because companies need time to restructure their finances and become stronger.

How Does An A Reorganization Work?

A merger occurs when two companies combine forces to form a single company. Mergers usually happen when there is a need for growth or expansion. A merger can also arise when a company wants to acquire another company. When a company merges with another company, the shareholders of each company receive shares of stock in the resulting company. After the merger, the shareholders of the acquired company become shareholders of the acquiring company.

What Are The Requirements Of An A Reorganization?

There are two main reasons why a company might need to restructure itself. One reason is when the company needs to merge with another company. Another reason is when the company wants to change its focus. For example, a company might want to focus more on technology or manufacturing instead of selling products. If the company continues to operate after the restructuring, it will still have the same owners and employees.

In a corporate acquisition, the acquiring company pays the target company a purchase price equal to at least 40 percent of the value of the acquired company’s shares outstanding. The acquiring company does not need to own any of the acquired company’s stock to satisfy the 40% rule. Instead, the acquirer can pay cash or debt to buy the target company’s shares. If the acquirer buys all of the target company’s shares, the acquirer will have to pay at least 40 percent of its equity capital. However, suppose the acquirer buys less than 100 percent of the target company’s stock. In that case, the acquirer must pay at least 40 percent out of its equity capital plus the amount of the difference between what the acquirer pays and the minimum percentage required. For example, if an acquirer pays $10 per share for a target company with 200 million shares outstanding, then the acquirer needs to spend at least $40 per share ($20 + $20 $40) to meet the 40% requirement.

Example

In the above scenario, company A acquires company B for $150,00. At least $60k must be stock of A, and the remaining $90k could be anything. Company B receives the money from A and then liquidates it. The consideration provided by A is distributed to the shareholders in a tax-free transaction. Depending on whether $90k is stock or other property, there may be tax consequences for the shareholders of B.

When you consider a tax-free reorganization, keep in mind that there are different types of considerations that may qualify for tax-free treatment. For example, if you are going through bankruptcy, you will not be able to claim any tax-free treatment. However, if you want to sell your company, you might be able to claim tax-free treatment. 

Still Have Questions? Call Us

Speak with an experienced Colorado Business Attorney or Tax Attorney about what options are available to you. Contact The McGuire Law Firm at 720-833-7050 to discuss your situation.

When buying a company, you have two options: buy all its shares or just the company’s assets. If you’re looking to sell your company, you may also choose to sell all of its shares or just its assets. There are pros and cons to stock sales or asset sales options. For example, if you own 100% of a company, you will receive all the proceeds from any future company sales. However, you’ll get less money if you sell only the company’s assets. It would be best to consider both types of transactions when making an investment decision.

An acquisition is a purchase of shares in a company. An asset transaction is when you buy something like a house or car. A stock transaction is when you buy shares in a company. When you buy shares in a corporation, you become a shareholder. You get all the rights that come along with that. If you buy 100 shares of XYZ Corporation, you will receive one share of XYZ Corporation. That means you own 1/100th of the company. You also get all the rights that accompany owning a piece of the company. For example, if the company owns a factory, then you get access to the factory. 

This article has been prepared by a Denver business attorney and tax attorney to discuss section 338(h)(10) of the Internal Revenue Code.

Stock sales

In a stock sale, the company sells its shares to another company. The buyer buys all the shares owned by the sellers. The buyer also takes on all the debts and obligations of the company. The buyers gain full ownership of the company and become responsible for paying any debt or obligation incurred by the company. If the company does not have enough money to pay back the debts, the buyer must either sell off other assets or borrow money to pay them back.

Buyers should consider whether they are willing to assume the risks of buying a company’s stock. When selling a company, the seller must disclose any material facts about the company’s financial condition. 

For example, if a company faces legal challenges, there could be a lawsuit against the company. If the company is facing environmental problems, the company could face fines or penalties. Employees could strike or go on strike if the company faces labor issues. All of these situations could cause the price of the company’s stock to drop significantly.

A stock sale will allow the owners to retain control of the company while still allowing them to sell shares to investors. If the company has many copyrights or patents or has significant government or corporate contracts that are difficult to assign, then a stock sale may be a better choice. A stock sale also allows the owners to reduce the risk of losing those contracts.

Sellers often prefer to sell stocks because all the proceeds are tax-free. Sellers also avoid paying taxes on any income earned while holding the shares. For example, if you sold your stock at $100 per share, you’d pay $20 in federal income taxes. If you held onto the stock until it reached $150 per share, you’d owe $50 in federal income taxes. But if you sold the stock worth $100, you’d owe nothing on the sale.

A deal structure can greatly impact the future of both the buyer and the seller. Other factors, including the company’s structure and industry, can also affect the decision. Buyers and sellers need to consult with their business intermediary, legal counsels, accountants, and others early in the process to ensure that all necessary information is gathered and understood before making a final decision.

Asset Sale

When selling an asset, the seller remains the legal owner of the entity while the buyer purchases individual assets. For example, when selling a car, the seller keeps ownership of the vehicle while the buyer buys the engine, transmission, tires, etc. A typical asset sale does not involve buying the seller’s cash or paying off debts. Instead, the buyer pays for the assets individually. An asset sale is often called “cash-free” and “debt-free.”

Net Working Capital is usually included in an Asset Purchase Agreement. It includes items like Accounts Receivable, Inventory, and Accounts Payable.

Selling a corporation can have significant tax consequences for both the buyer and seller. Generally, sellers of corporate entities prefer to engage in a stock sale rather than an asset sale, while buyers choose to engage in an asset sale. However, it is not impossible to satisfy both parties to the transaction with a §338(h)(10) election.

Asset Purchase

If a purchaser pays for a target company’s stock, they receive a cost basis under §1012 for the value of the stock itself. On the other hand, buyers prefer an asset purchase over a stock purchase to increase their basis for depreciation purposes. The underlying assets held by the selling corporation retain the same basis as before, which does not create a benefit for the purchaser in terms of depreciation.

Asset Purchase Example

For instance, consider a corporation that holds a machine that costs $500. In years one and two, the corporation depreciates the machine by $100 per year, so the adjusted basis under §1012 is now $300. This also assumes that the seller holds the stock with a basis of $500, the total fair market value of the entity is $1,000, and there are no liabilities.

If the corporation engages in a stock sale, the purchaser will pay $1,000 for the stock since that is the fair market value. The buyer’s basis in the stock will be $1,000 under §1012. However, the machine retains the $300 basis. There is no adjustment to this underlying asset. The seller enjoys capital gains treatment on $500 of gain from the stock sale, which is the difference between the amount realized of $1,000 and the adjusted basis of $500 (§1001). Even though the buyer purchased the stock for $1,000, he may only use the machine’s basis of $300 for depreciation purposes. There is no step-up in basis allowed for underlying assets absent the §338 elections.

Limitations to Asset Purchases

Note that there are some limitations to asset purchases that make stock purchases more favorable. These include limitations built-in by contracts and other legal obligations. There could also be other liability issues that prevent sellers from engaging in an asset sale.

For these reasons, section 338 may provide an attractive alternative to satisfy both the buyer and seller in a business sale. Please discuss any specific business or tax matters directly with your business attorney or tax attorney.

To speak with a Denver business attorney or tax attorney, please contact The McGuire Law Firm at 720-833-7705.

Are you considering establishing a corporation? Perhaps you have considered contributing property as consideration for your interest while another member would like to contribute cash. You may even find yourself in a situation where a third person would like to donate his services in exchange for an interest in the corporation. Each of these situations can have significant tax consequences, so you must plan to maximize the benefit of the formation. This article was drafted by a Denver Business Attorney and Denver tax attorney to provide information related to the contribution of a property when you form a corporation.

Features of IRC Section §351 

One of the most attractive features of forming a corporation is in §351 of the tax code. This provision allows persons to contribute property to a corporation without recognizing gain if done correctly. 

Alternatively, §351 may stop some members from recognizing a loss, which may be a negative factor. As a general rule, the exchange of stock for property creates a §1001 event taxable. However, Congress wanted to make a way where taxpayers could still contribute property to a corporation without getting hit with a huge tax liability. This resulted in §351, but this code section does create requirements for it to apply.

Requirements in IRC Section §351 

Many requirements must be met, and the whole transaction may trigger immediate tax consequences if the conditions are not met. Remember that simply contributing property to a corporation does not eliminate the gain nor create a step-up basis, similar to §1014. Instead, the tax consequences will linger in the background until any realized gains or losses must be recognized in the future. 

Section §351 of the Internal Revenue Code applies only to the contribution of property, which does not include services. However, there are exceptions, but you must be careful when creating a corporation with someone who plans to provide any services in their interest. The contribution of services may completely ruin a §351 transaction, depending on the value.

Requirements in IRC Section §368(c)

Under Section §368(c) of the Internal Revenue Code, members must also acquire control of the corporation’s formation. This section requires that the members contributing to the property possess 80% of the voting power and 80% of shares of all other classes of stock issued by the corporation.

Non-Recognition and IRC Section §351

Additionally, the non-recognition portion of Internal Revenue Code Section §351 applies only to situations where the members receive solely stock for their interest. However, in cases where members receive boot, or something other than stock, in exchange for their contribution, they may recognize gain or loss. Receiving something different than stock does not always ruin the §351 transaction entirely, but it may trigger profit or loss, which could defeat the entire purpose of the transaction.

Liabilities and IRC Section §351

Liabilities also create issues with IRC Section §351 transactions where the corporation assumes the debt. It is not uncommon to have machines or other equipment carrying a note or obligation to consider one’s interest. As mentioned above, the courts did not want to discourage taxpayers from transferring property to a corporation simply because a liability encumbered it. Instead, the whole purpose of §351 was to encourage entity formations.

As a general rule, if liabilities are incurred on a property for legitimate business purposes, these will not trigger gain or loss upon formation. Instead, the penalties will be accounted for on the member’s basis in the corporation. However, there is an exception where the liabilities exceed the basis of the property. Under §357(c), there will be gain recognition, but only to the extent that the liabilities exceed the basis.

Forming a corporation can have many benefits, but you must consider all the contributions made before determining the overall tax consequences to the newly formed corporation and its shareholders. 

In Summary

Consider speaking with a Denver business attorney and Denver tax attorney regarding the business and tax implications of forming a corporation and contributing property to the corporation. Planning the contributions in the beginning can help avoid significant tax liability in the future.

You can contact The McGuire Law Firm to speak with a Denver Business Attorney or Denver Tax attorney. Call us at 720-833-7705 or John@jmtaxlaw.com

When gifting property, gift and estate taxes are two different types of taxes applied to wealth transfers. A gift is when someone gives away property without getting anything back in return. An example of a gift is giving your car to your friend. Estate taxes apply to the transfer of assets after death. The recipient of the asset pays these taxes. The gift tax is a tax that the giver of the asset pays. It is usually charged at a rate of 35 percent. The estate tax is generally set at a higher rate, depending on the size of the estate. For example, estates worth $5 million or more are taxed at 40 percent. Estates worth $10 million or more are taxed 50 percent. This article has been drafted by John McGuire, a Denver tax attorney at The McGuire Law Firm, to discuss tax matters related to gifting.

Gift Tax vs. Estate Tax?

Gift taxes apply to gifts given throughout your life. Estate taxes apply to gifts you give after you die. Both types of taxes are essential for many reasons. For example, you’ll owe gift taxes if you give away $10,000 worth of property while alive. If you give away $10 million worth of property after you die, the government will receive that money as income. That means you’ll owe estate taxes on that amount. These taxes are significant because they affect what you can leave behind for loved ones after you pass away.

Gift Tax Policy

The gift and estate taxes were initially designed to discourage people from transferring wealth to heirs at death. However, many people still try to avoid paying the estate tax. For example, people may give gifts to relatives instead of selling property. Or they may transfer property ownership to shell companies not subject to taxation. These actions allow them to pass on their wealth while avoiding the estate tax.

Estate Taxes

The federal estate tax applies to property transfer at death in the United States. The estate tax is imposed on the first $11.58 million of an individual’s estate. The estate tax rate is 40%. The combined estate and gift tax threshold for married couples filing jointly is $22.4 million.

Real Estate Gift Tax

However, the basis is a little trickier regarding a property with loss. When the donor has a basis in property greater than the fair market value and chooses to transfer it as a gift, the donee does not simply take the donor’s basis. This is a situation where there is a built-in loss at the transfer time. In other words, if the donor has a basis higher than the actual value at the time of the gift, more basis concerns must be considered upon the following disposition.

For instance, if the donor has a basis in the property of $50,000 and the fair market value at the time of the gift is $40,000, the donee will wait until the latter disposes of the property to determine his basis for gain or loss purposes. If the donee later sells the property for $30,000, then under §1015, the donee will take a basis equivalent to the fair market value of $40,000. This would allow the donee to recognize a loss of $10,000 rather than $20,000 if he had taken a basis equivalent to the donor’s basis.

The Capital Gains Tax Over The Long Term

For example, Joe’s parents bought the house when he was born. He will inherit the house if his parents die before him. But, because the house was purchased at a discount, Joe will get less money than his parents paid.

Joe will receive a gift when he sells his house. If he doesn’t give away the house, he will owe taxes on the difference between what he sold the house for and what he gave away. He will also get a larger tax deduction if he gives away the home.

Stay Informed About Gifting

When you give someone else your property, you may not realize there could be unexpected taxes or other financial implications. Before giving away anything, consider what happens when you pass away. You might need to pay inheritance taxes if you leave behind a large amount of money. Or you might need to pay capital gains taxes if you sell the item. If you plan, you can avoid any problems.

You can speak with a Denver tax attorney and Denver business attorney by contacting The McGuire Law Firm.

Income taxes are a significant source of revenue for states. Most states impose an income tax on residents and non-residents alike. Individual taxation is usually progressive, meaning that the amount of tax owed increases with each additional dollar earned. States also levy other taxes, including sales, property, excise, and corporate taxes.

The Internal Revenue Code and Treasury Regulations are long and complex. Many laws apply to and impact your 1040 income tax return and must be considered when planning for future individual decisions. In addition to assisting clients with their IRS matters, a tax attorney at The McGuire Law Firm can help you with your personal tax questions and issues that impact your individual income tax returns.

Filing Taxes

Individuals may also choose to file an annual tax return themselves. Individuals filing returns must complete Form W-4, Employee’s Withholding Allowance Certificate. Employers must withhold federal income tax at the rate specified on the W-4. State income tax is calculated based on the total wages earned during the year.

Income taxes are paid quarterly or annually, depending on your income level and source of income. If you earn more than $150,000 annually, you will need to pay the regular income tax. You will not owe any additional tax if you earn less than $150,000. Self-employed individuals must file estimated tax returns every quarter or year.

Individuals must file Colorado individual income tax returns (form 104) and pay all taxes owed to the State of Colorado by April 15th each year. If you owe taxes, you can get them back if you file your return within three years after the end of the tax year. You may also request an extension until April 15th.

Tax Liability

Taxpayers’ total Colorado income tax liability is determined using a flat tax rate of 4.6% of adjusted gross income. Additions and subtractions are made to federal taxable income before applying the flat tax rate. Credits are subtracted from the resulting figure to determine the net Colorado income tax. The Department of Revenue publishes an annual report detailing income tax expenditures, including additions, deductions, and credits.

Income Tax Credits

Credits are available for individuals and corporations. Some are available for both. For example, the Earned Income Tax Credit (EITC) is available for individuals and corporations.

Tax credits are usually nonrefundable, so you get what you pay for. Refundable tax credits are those that are refunded to taxpayers. Any money left over after paying all taxes is returned to you. You can carry over unused credits to the following year, but you won’t receive anything back if you owe less than your credit.

Tax Distributions

In 2017, the State Education Fund received $1.4 billion in total revenues, including $845 million from personal income tax and $566 million from corporate income tax. Of those funds, $735 million went towards K-12 public schools, while $636 million went towards higher education institutions. The remainder went toward other purposes, including the Department of Corrections and Rehabilitation ($65 million), the Office of Public Defender ($31 million), the Department of Natural Resources ($30 million), and the Department of Revenue ($27 million).

Federal Income Taxes

Taxpayers must file federal income tax returns yearly, even if they did not earn any taxable income during the previous calendar year. Taxpayers whose adjusted gross income exceeds certain thresholds must also pay estimated taxes at regular intervals throughout the year. These payments are called “payments underestimated tax” or “PUETs.”

Federal taxable income is calculated as Gross Income minus any Tax Deductions and Exemptions a taxpayer might Qualify for. Net Federal Income Tax is then calculated using Marginal Income Tax Rates, and Tax Credits are subtracted from this amount to arrive at the final Net Federal Income Tax.

Taxable income is determined by your total gross income minus certain deductions. For example, you may deduct expenses like mortgage interest, property taxes, and charitable contributions. You also get an exemption for dependents under age 17. Taxpayers must file Form 1040EZ if their adjusted gross income is less than $100,000 ($200,000 for joint filers) and they don’t owe any federal income tax. If you earn more than those amounts, you need to file Form 1040.

The tax year 2021 tax rates by income and filing status. Tax rate For single individuals, taxable income over. For married individuals filing joint returns, taxable income over.

 A tax attorney at The McGuire Law Firm can analyze your situation and provide guidance and counsel regarding your specific situation and circumstances.