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Unformatted text preview: Taxation of Corporate Accumulations Solutions to Tax Research Problems 21-41 a. Section 1033 provides for nonrecognition of gain on certain involuntary conversions. Condemnations are included in the term involuntary conversion, as are sales following the threat of condemnation. To qualify for nonrecognition, the taxpayer must replace the property with similar or related-use property. The taxpayer could purchase control of a corporation that owns qualified replacement property. The qualified replacement property must be acquired by the end of the second taxable year following the close of the taxable year in which the involuntary conversion takes place. The Holts are interested in investing the proceeds in a three-year CD. This will violate the replacement period. The longest replacement period is two years and eleven months, assuming that the conversion took place during the first month of a tax year. Failure to replace on time will result in the realized gain on the conversion being recognized. The type of gain will be dependent on the property. Specifically, H Corporation might have ordinary income as a result of § 1250 and § 1245 depreciation recapture. b. It is very likely that H Corporation will be a personal holding company. There are two tests: the ownership test and the income test. Because the corporation is owned by William and Wilma alone, it will always meet the ownership test. Because the only revenue following the condemnation will be interest income, which is personal holding company income, the corporation will meet the income test. The corporation cannot rely on the exclusion contained in § 543 to avoid the tax. This section provides for a subtraction in arriving at adjusted ordinary gross income for interest on condemnation awards. That refers to the interest paid as part of the settlement. It does not apply to interest earned on the temporary investment of the condemnation proceeds. The easiest way for the corporation to avoid paying the penalty tax is to pay dividends. Dividends reduce the undistributed personal holding company income. Therefore, if the corporation distributes all this income as dividends, no penalty tax will accrue. Another possible way to avoid the personal holding company tax would be for the corporation to invest the funds in securities yielding nontaxable interest. To be personal holding company income, the item must be included in adjusted ordinary gross income. Because nontaxable interest is excluded, it is not personal holding company income. c. We need to know the Holts ’ basis in the stock. Since § 331 treats the liquidation as a sale at the shareholder level, the basis and holding period of the stock are needed to determine the gain or loss on the liquidation and the resultant tax. We also need to know if the corporation owned any assets (other than cash) that would be distributed to the Holts. Under § 336, the corporation recognizes gains and losses on the distribution of its assets. If there are losses, information about the date and method oflosses on the distribution of its assets....
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- Spring '11
- Taxation in the United States, Personal Holding Company