An S corporation that acquires 100 percent of the stock of a domestic C corporation can elect to treat the C corporation as a qualified subchapter S subsidiary corporation under Section 1361(b)(3) of the Internal Revenue Code. The parent S corporation can make the Qualified Subchapter S Subsidiary Election (the “Q Sub Election”) by filing IRS Form 8696 with the Internal Revenue Service. The requested effective date of the Q Sub Election cannot be more than (1) twelve months after the date the election is filed or (2) two months and fifteen days before the election is filed.
When the parent S corporation makes the Q Sub Election, the qualified subchapter S subsidiary corporation is a disregarded entity for federal income tax purposes and is treated as a division of the parent S corporation. All of the assets and liabilities and tax items of the subsidiary are treated as the assets and liabilities of the parent corporation. Transactions between the parent S corporation and the subsidiary are not taken into account and certain items of the subsidiary, including built‑in gains, are considered items of the parent corporation. The Q Sub Election does not trigger the built‑in gains tax. However, the property of the subsidiary retains its basis. The parent corporation will trigger the built‑in gains tax if it disposes of the property within the built‑in gain recognition period under Section 1374(d)(7) of the Internal Revenue Code.
For state business law purposes, the subsidiary remains a separate entity from the parent corporation. The subsidiary must continue to follow all of the requirements of its state laws to continue as a separate entity. The parent corporation may need to acquire the stock of the C corporation for non‑tax reasons. Maintaining the C corporation as a qualified subchapter S subsidiary will limit the parent corporation’s legal liability for the subsidiary’s obligations to the assets of the subsidiary.
If you have any questions about how the information in this article may affect you or your business, please contact Bob Schwab at rschwab@stroudlaw.com or (608) 257‑2281 or your Stroud attorney.
DISCLAIMER: The information in this article is provided for general informational purposes only, is not necessarily updated to account for changes in the law, and should not be considered tax or legal advice. This article is not intended to create, nor does the receipt of it constitute, an attorney‑client relationship. You should consult with your own legal and/or financial advisors for legal and tax advice tailored to your specific circumstances.