Consolidated Returns — Elections and Filing (Portfolio 754)

Generally, affiliated groups may elect to file consolidated returns in lieu of separate returns. Affiliated groups are groups of “includible corporations” which are connected through stock ownership with a common parent which is an includible corporation. Includible corporations consist of most domestic corporations and certain foreign corporations. Entities that cannot file consolidated returns include: (1) tax-exempt corporations; (2) regulated investment companies; and (3) real estate investment trusts.

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Tax Management Portfolio, Consolidated Returns — Elections and Filing, No. 754-4th, analyzes the eligibility requirements and the scope of the consolidated return regulations.

Generally, affiliated groups may elect to file consolidated returns in lieu of separate returns. Affiliated groups are groups of “includible corporations” which are connected through stock ownership with a common parent which is an includible corporation. Includible corporations consist of most domestic corporations and certain foreign corporations. Entities that cannot file consolidated returns include: (1) tax-exempt corporations; (2) regulated investment companies; and (3) real estate investment trusts. If a group elects to file consolidated returns, it computes a single tax based on the incomes of all corporations in the group after numerous adjustments and eliminations. Thus, filing consolidated returns may substantially affect the group's overall tax liability since losses of one member may be used to offset income or gains of another member. However, before deciding to file consolidated returns, the group must consider the effect of the consolidated return rules upon each member and upon the group as a whole. Among other things, the group should consider: (1) whether it is eligible to file a consolidated return; (2) how the tax liability of filing a consolidated return compares to separate filings; and (3) the effect an election to file consolidated returns will have on future years.

This Portfolio discusses the advantages and disadvantages of filing consolidated returns. It also analyzes: (1) the administrative rules for electing and filing consolidated returns; (2) the eligibility requirements that must be met in order to file a consolidated return; and (3) the computation of estimated tax payments if consolidated returns are filed. This Portfolio is one of four Portfolios devoted to an analysis of consolidated returns. For an analysis of the concepts involved in the ownership of subsidiary stock within an affiliated group filing consolidated returns, see 755 T.M., Consolidated Returns—Investment in Subsidiaries. For an analysis of (1) the computation of separate taxable income, (2) the computation of consolidated income items, such as capital gain or loss and §1231 gain or loss, and (3) the computation of consolidated tax credits, see 756 T.M., Computation of Consolidated Tax Liability. For an analysis of the limitations imposed by the consolidated return regulations on the use of losses, such as the separate return limitation year rules and §382, see 757 T.M., Consolidated Returns — Limitations on Losses.

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George L. White, B.A., Holy Cross College (1958); M.B.A., University of Pennsylvania (1960); LL.B., Harvard University (1963); admitted to practice in Massachusetts; Certified Public Accountant, Massachusetts.


Detailed Analysis

I. Introduction

II. Overview

A. Historical Development

1. Congress

2. Internal Revenue Service

3. Taxpayers

B. Power of Legislative Regulations

1. Definition

2. Reasons for Legislative Regulations

a. Generally

b. Specifically

3. Regulations vs. Code

a. Generally

b. When Regulations Override

c. When Code Prevails

C. Validity of Consolidated Return Regulations

D. Longevity of Regulations

1. Pre-1966

2. 1966

3. 1995

E. Theory of a Consolidated Return

F. Preparation of a Consolidated Return

1. Separate Statement of Income, Deductions, Credits, Etc.

2. Segregation

3. Adjustments

4. Treatment of Segregated Items

5. Combination of Separate Net Incomes

6. Items Given Consolidated Treatment

7. Tax Computation

8. Tax Allocation - Earnings and Profits

G. Format of the Consolidated Return Regulations

1. Administrative Provisions

2. Computation of Separate Taxable Incomes of Members of the Group

a. Intercompany Transactions

b. Dividend Distributions

c. Built-in Deductions

d. Excess Losses and Investment Adjustment

3. Computation of Consolidated Items

4. Special Rules

a. Basis

b. Transactions Regarding Stock, Bonds, and Obligations of Members

c. Stock Ownership Rules

d. Allocations

5. Tax Computation Rules

6. Special Taxes

7. Section 382

III. Eligibility to File a Consolidated Return

A. General Requirements

1. Includible Corporations

a. Domestic Corporations

(1) Tax-Exempt Corporations

(2) Life Insurance Companies Subject to Tax Under § 801

(3) Corporations Electing the Possessions Tax Credit

(4) Regulated Investment Companies and Real Estate Investment Trusts

(5) DISCs (Current and Former)

(6) S Corporations

b. Foreign Corporations

(1) General Rule

(2) Exception for Certain Canadian and Mexican Corporations

2. Affiliated Group

a. Overview

b. Historical Development

c. Definition

(1) Group Structure

(2) Chain of Ownership

(3) Stock Ownership Test

(a) Voting Test

(b) Value Test

(4) Direct Ownership Requirement

(5) Certain Preferred Stock

(6) Treatment of Options, Warrants, Convertible Obligations and Similar Instruments

d. Deconsolidation and Reconsolidation

(1) Five-Year Prohibition on Reconsolidation

(2) Intra-Group Stock Transfers and Changes in Voting Power of Stock

e. Determination of Affiliated Status

B. Termination of Affiliation

1. General Rule

2. Exceptions to the General Rule

a. Mere Change in Identity

b. Downstream Transfer

3. Reverse Acquisitions

C. Business Purpose and § 269

IV. Advantages of Filing Consolidated Returns

Introductory Material

A. Basic Advantages

1. Offset Privilege

2. Intercorporate Dividends

3. Intercorporate Profits

4. Increase in Basis of Stock of a Subsidiary

B. Other Significant Advantages

1. Credits or Deductions That Depend Upon Income Limitations

2. Transfers of Property Among Members of the Group

3. Obtaining U.S. Tax Benefits in Connection with Certain Canadian or Mexican Corporations

4. Contributions to Profit-Sharing Plans

5. Estimated Tax Payments

6. Change of Subsidiary's Accounting Period

7. Preservation of Separate Corporation Advantages

8. Unused Foreign Tax Credit of Some Members

9. Deferral of Reporting of Intercompany Items of Income

10. Gain Recognized Only to Limited Extent in Liquidations and Redemptions

11. Deferral of Gain on Dividend Distributions Out of Other Than Earnings and Profits

12. Aggregation of Stock Ownership

13. Avoidance of Personal Holding Company Classification

V. Disadvantages of Filing Consolidated Returns

Introductory Material

A. Loss Disallowance Regulations and Unified Loss Rule

B. Compliance with Consolidated Return Regulations

C. Other Disadvantages

1. Permanent Nature of Election

2. Consistent Accounting Period

3. Effect of Short Taxable Year on Loss Carryovers

4. Loss of Capital Gain on Sale of Depreciable or Amortizable Property

5. Section 1231 Gains and Losses

6. Credits and Deductions Subject to Limitations

7. Diminution of Ordinary Losses

8. Bad Debts

9. Unrealized Intercompany Losses

10. Reduction of Basis of Stock of a Subsidiary

11. Excess Losses

12. Loss of Deductions Attributable to Capitalized Expenses

13. Minority Shareholders

VI. Consent to Consolidated Return Regulations

A. Overview

B. Consent to the Regulations

1. Formal Consent

2. Informal Consent

3. Failure to Consent to Regulations

4. Subsequent Taxable Years - New Members

VII. Administrative Rules Relating to the Election to File Consolidated or Separate Returns, the Forms Required, the Tax Liability of the Group, and Miscellaneous Matters

Introductory Material

A. Election to File Consolidated Returns

1. Election Is a Privilege

2. Continuing Effect of Election

3. Time Within Which Election Must Be Exercised

4. Tentative Returns

5. Manner of Making Election, Returns, Forms, Signatures, and Related Technical Requirements

a. Consents

b. Affiliations Schedule

c. Persons Qualified to Execute Returns and Forms

6. Automatic Extension of Time to File Consolidated Returns

B. New Election to File Separate or Consolidated Returns

1. Elements of “Good Cause”

2. Other Factors

3. Application for Discontinuance

4. Blanket Permission to File Separate Returns

5. Permission to a Class of Groups

6. Time and Manner of Exercising Blanket Election to File Separate Returns

7. Validity of Continued Filing Requirement

8. Presumed Consent of New Member

C. Erroneous Inclusion of Corporations in Consolidated Return

1. Income Included in Return

2. Allocation of Tax Liability

D. Failure to Include Subsidiary

E. Tax Liability of Group Members

F. Agency of Parent Corporation for All Members of Group

1. Tax Court Proceedings

2. Notices and Demands

3. Withdrawal of Subsidiary

4. Termination of Common Parent Corporation

5. Consequences of Group Structure Change

6. Domestic Substitute Agent

G. Waivers Extending Statute of Limitations

H. Statute of Limitations

1. Filing of Separate Returns

2. Filing of Consolidated Return

VIII. Administrative Rules Regarding Changes of Affiliated Group During Year, Accounting Periods, and Methods of Accounting

A. Changes in Affiliated Group During Taxable Year

1. Common Parent Corporation

2. Termination of Affiliated Group Before Close of Taxable Year

3. Addition or Elimination of Group Member During Taxable Year

4. Separate Returns for Periods Not Included in Consolidated Return

5. Determination of Items Included in Separate and Consolidated Returns

a. In General

b. Ratable Allocation Election

c. Allocation of Taxes

d. Allocation of Items of Pass-through Entities

6. Time for Making Separate Returns for Periods Not Included in Consolidated Return

a. In General

b. Statute of Limitations

B. Accounting Periods

1. Uniform Taxable Year

2. 52-53 Week Year

C. Methods of Accounting

1. Non-Uniform Accounting Methods

2. Adjustments Required by Changes in Method of Accounting

IX. Estimated Tax Payments and Penalties

A. Installment Payments of Estimated Tax

B. Additions to Tax on Underpayment of Estimated Tax

1. Computation of Penalty on Separate Member Basis

2. Computation of Penalty on Consolidated Basis

3. Consolidated Payments if Separate Returns Filed

C. Adjustment of Overpayment of Estimated Tax

X. Tentative Carryback Adjustments

Introductory Material

A. Group Membership Constant and Consolidated Returns Filed

B. Membership Changed or Separate Returns Filed


Working Papers

Table of Worksheets

Worksheet 1 Conference Report on the Deficit Reduction Act of 1984 (the Tax Reform Act of 1984), H.R. Rep. No. 861, 98th Cong., 2d Sess. (June 23, 1984) (Excerpts: pages 831–835)

Worksheet 2 Explanation of Technical Corrections to the Tax Reform Act of 1984 and Other Recent Tax Legislation (Title XVIII of H.R. 3838, 99th Congress; Public Law 99–514) [Staff of Joint Committee on Taxation, 100th Cong., 1st Sess. (May 13, 1987)] (Excerpts: pages 19-21)

Worksheet 3 Considerations in Filing a Consolidated Return

Worksheet 4 Sample Request by Former Group Member for Copy of Notice of Deficiency and Notice of Demand for Payment for Consolidated Return Years in Which It Was Member of Group

Worksheet 5 Sample Notice of Dissolution of Common Parent and Designation of Another Member of Group to Act as Agent in Its Place

Worksheet 6 Election to Include Foreign Corporation in Consolidated Return Pursuant to § 1504(d)

Worksheet 7 Application to Discontinue Filing Consolidated Return Pursuant to Regs. § 1.1502-75(c)

Worksheet 8 IRS Analysis of Taxpayer's Request to Discontinue Filing Consolidated Returns (PLR 7750017)

Worksheet 9 Adoption of Parent's Taxable Year Pursuant to Regs. § 1.1502-76(a)




Treasury Regulations:

Treasury Rulings: