| Date: | 05/08/1997 |
|---|---|
| Organization: | Massachusetts Department of Revenue |
| Referenced Sources: | Massachusetts General Laws |
Corporate Excise/Personal Income Tax
I. Introduction
The federal Small Business Job Protection Act of 1996 (the "Act") has eliminated or eased several restrictions on federal S corporation eligibility. In addition, the Act amended the federal law to allow federal S corporations to own "qualified S corporation subsidiaries." This Technical Information Release (TIR) explains how these federal tax law changes affect federal S corporations' eligibility for S corporation treatment under the Massachusetts personal income tax and corporate excise.
In general, the Massachusetts personal income tax relies on the definitions found in the 1988 Internal Revenue Code. G.L. c. 62, § 1. However, for the limited purpose of defining S corporations and characterizing income as S corporation income, the Massachusetts S corporation regulation adopts the current Code with certain additional eligibility requirements. See 830 CMR 62.17A.1(2). For corporate excise purposes, Massachusetts generally adopts the current Code. See e.g., G.L. c. 63, §§ 30.3, 30.4, 32D. Thus, as discussed in Section II.C., below, a corporation that meets the expanded definition of an S corporation for federal tax purposes will be eligible for S corporation treatment in Massachusetts if it is otherwise eligible for such treatment under the S corporation regulation. In addition, where a corporation is eligible for Massachusetts S corporation treatment and has a qualified S corporation subsidiary, the subsidiary's items of income, loss and deduction pass through to the parent's shareholders as explained in Section III.C., below. Finally, both federal S corporations and qualified S corporation subsidiaries are subject to the corporate excise as discussed in Sections II.D., and III.D., below.
II. Expanded S Corporation Eligibility
A. Federal Tax Law Change
Starting with 1997 taxable years, the Act makes it easier for corporations to qualify as federal S corporations and to remain eligible for federal S corporation treatment. Specifically, S corporations may now have 75 shareholders whereas only 35 shareholders were permitted under prior law. See IRC § 1361(b)(1)(A), as amended by P.L. 104-88 § 1301. In addition, certain entities that were previously ineligible to be S corporation shareholders may now own S corporation shares. See e.g., IRC § 1361(c)(2), as amended by P.L. 104-88 §§ 1302, 1303 (expanding the eligibility of trusts to own S corporation shares); IRC § 1361(c)(7), as amended by P.L. 104-88 § 1316(a)(2) (permitting certain tax exempt organizations to own S corporation shares).
B. Current Massachusetts Law; Definitions of S Corporation
For personal income tax purposes, an S corporation is defined as "an entity described at Code [section] 1361, as amended and in effect for the taxable year." 830 CMR 62.17A.1(2). For corporate excise purposes, an S corporation is any domestic or foreign business corporation, manufacturing corporation or research and development corporation that is an S corporation under the Internal Revenue Code as amended and in effect for the taxable year. G.L. c. 63, § 32D. Thus, Massachusetts relies on the current Internal Revenue Code for purposes of defining S corporations under both the personal income tax and the corporate excise.
C. Personal Income Tax; Treatment of S Corporation Shareholders
A corporation (excluding a corporate trust) that is an S corporation under the new federal eligibility rules is eligible to be treated as an S corporation under the Massachusetts personal income tax notwithstanding the differences between the current Code and the 1988 Code. Thus, a federal S corporation (excluding a corporate trust) must pass its items of income, loss and deduction through (i) to its resident shareholders if it is required to do so under 830 CMR 62.17A.1(5) and (ii) to its non-resident and part-year resident shareholders if it is required to do so under 830 CMR 62.17A.1(6) and (7). The taxability of a federal S corporation's actual distributions to shareholders is determined under 830 CMR 62.17A.1(10).
D. Corporate Excise; Taxation of Corporate Entity
All domestic business, manufacturing, and research and development corporations are subject to the excise imposed by G.L. c. 63, § 32. All foreign business, manufacturing, and research and development corporations doing business in Massachusetts are subject to the excise imposed by G.L. c. 63, § 39. In the case of any foreign or domestic business, manufacturing or research and development corporation that is also a federal S corporation, the income measure of the excise is determined under G.L. c. 63, § 32D. Any corporation (excluding a corporate trust) that qualifies as a federal S corporation under the new federal eligibility rules will be subject to the corporate excise under Section 32 or 39 and Section 32D. See 830 CMR 62.17A.1(3).
III. Qualified S Corporation Subsidiaries
A. Federal Tax Law Change
The Act allows S corporations to own qualified S corporation subsidiaries starting with 1997 taxable years. See IRC § 1361(b)(3), added by P.L. 104-88 § 1308(b). Such subsidiaries must be wholly owned by the S corporation parent. IRC § 1361(b)(3)(B)(i). The parent must elect qualified S corporation treatment for its subsidiary. IRC § 1361(b)(3)(B)(ii). For federal tax purposes, the qualified S corporation subsidiary is not treated as a separate corporation. Rather all of the subsidiary's assets, liabilities, and items of income, deduction and credit are treated as those of the S corporation parent. IRC § 1361(b)(3)(A). These items are then flowed through to the shareholders as provided in IRC § 1366.
B. Current Massachusetts Law; S Corporation Subsidiaries
Massachusetts law makes no specific provision for qualified S corporation subsidiaries. Thus, in the case of a federal S Corporation with a qualified S corporation subsidiary, the general principles of the S corporation regulation and the corporate excise statute apply as discussed below.
C. Personal Income Tax; Pass-through to Shareholders
If an item of income, loss or deduction is treated as having flowed through a federal S corporation (excluding a corporate trust) for federal tax purposes, the item also passes through for Massachusetts personal income tax purposes if such pass-through is required under 830 CMR 62.17A.1(5)-(7). Where a shareholder receives an actual distribution from a federal S corporation (excluding a corporate trust), it is treated as an S corporation distribution under 830 CMR 62.17A.1(10). No provision of Massachusetts law changes these results where the S corporation owns a qualified S corporation subsidiary.
Thus, notwithstanding the differences between the current Code and the 1988 Code, where a federal S corporation (excluding a corporate trust) owns a qualified S corporation subsidiary, the subsidiary's items of income, loss, deduction and any other items necessary to determine the shareholders' personal income tax liability pass-through to the shareholders of the S corporation to the extent such pass-through is required under 830 CMR 62.17A.1(5)-(7). For personal income tax purposes, such items are treated as though they were realized directly by the parent. Where a federal S corporation (excluding a corporate trust) makes an actual distribution of income earned in whole or in part by a qualified S corporation subsidiary, the taxability of the distribution is determined under 830 CMR 62.17A.1(10), as though the entire amount distributed was earned directly by the parent. A corporation that is treated as an S corporation for Massachusetts purposes and that owns a qualified S corporation subsidiary must take all of the subsidiary's attributes into account when determining its apportionment factors and when maintaining its accounts for accumulated adjustments, basis and earnings and profits under the S corporation regulation.
D. Corporate Excise; Taxation of Corporate Entity
All domestic business, manufacturing or research and development corporations are subject to the corporate excise imposed by G.L. c. 63, § 32. All foreign business, manufacturing or research and development corporations doing business in Massachusetts are subject to the corporate excise imposed by G.L. c. 63, § 39. In the case of a corporation that is a federal S corporation, the net income measure of the excise is determined under G.L. c. 63, § 32D. No provision of the corporate excise allows the Commissioner to disregard the existence of a qualified S corporation subsidiary that falls within the definition of a domestic or foreign corporation under G.L. c. 63, § 30. Therefore, qualified S corporation subsidiaries and their S corporation parents (excluding corporate trusts) are both subject to the corporate excise as provided below.
1. Qualified S Corporation Subsidiaries: A qualified S corporation subsidiary doing business in Massachusetts must file a corporate excise return to report (i) any corporate excise attributable to its taxable tangible property or taxable net worth and (ii) the minimum corporate excise. A qualified S corporation subsidiary is not, itself, subject to the net income measure of the corporate excise since all of its income is treated as that of the parent under the Code.
2. S Corporation Parents: An S corporation parent must take into account the activities of its qualified S corporation subsidiaries in determining whether the parent is doing business in Massachusetts. For purposes of this determination, all of the subsidiary's activities will be attributed to the parent. For purposes of determining whether, and at what rate, an S corporation parent is subject to the net income measure of the corporate excise under Section 32D, the parent must aggregate its total receipts with those of its qualified S corporation subsidiaries as provided in 830 CMR 62.17A.1(11). Finally, if the net income measure does apply, the S corporation parent must take the subsidiary's items of income, loss and deduction into account in determining the parent's net income and must include the subsidiary's property, payroll, and sales in determining the parent's apportionment factors.
For purposes of determining the corporate excise attributable to the parent's taxable tangible property or taxable net worth, separate accounting is required. The assets, liabilities, income, deductions and credits of the parent and the qualified S corporation subsidiary are not combined and intercompany transactions are not eliminated for this purpose. Rather, the parent and the subsidiary each determine and report their taxable tangible property or taxable net worth based on their own separate attributes.
Mitchell Adams
Commissioner of RevenueTIR 97-6
May 8, 1997