Apportioning tax benefits among members of a controlled group

In general, tax benefits must be shared among the component members of a controlled group (as defined below). However, component members of a controlled group can apportion some tax benefits in any manner desired. If the group fails to adopt an apportionment plan, the benefits must be divided equally among all members of the group (Sec. 1561(a)).

A 50% stock ownership test is used to determine if two or more corporations are members of a brother-sister controlled group. This provision applies for the purpose of allocating the accumulated earnings credit under Sec. 535(c).

Apportioning the accumulated earnings credit

Under Sec. 1561(a), the component members of a controlled group of corporations at calendar year-end must divide the accumulated earnings credit (limited to $250,000, or $150,000 if any component member is a personal service corporation) among themselves as though they were a single corporate taxpayer for their tax years that include Dec. 31.

Apportioning Sec. 179 expense

Several limitations apply to the Sec. 179 deduction, which allows expensing of certain depreciable assets in the year they are placed in service. The annual deduction limitation and the placed-in-service limitation amount must be apportioned among the component members of the controlled group (Regs. Sec. 1.179-2(b) (7)). Furthermore, the controlled group is treated as one taxpayer for purposes of the taxable income limitation (Sec. 179(d)(6)), and property purchased from another group member does not qualify as Sec. 179 property (Sec. 179(d)(2)(B)).

For purposes of Sec. 179, a controlled group is defined by reference to Sec. 1563(a) but uses a 50% (instead of 80%) stock ownership test (Sec. 179(d)(7)).

Component members of a controlled group on Dec. 31 of a given year are treated as one taxpayer in applying the annual deduction and placed-in-service limitations for the tax year of each member that includes that Dec. 31 (Regs. Sec. 1.179-2(b)(7)). The Sec. 179 deduction can be taken by one component member or allocated among the members in any manner. However, the Sec. 179 deduction allocated to any member cannot exceed the cost of Sec. 179 property purchased and placed in service by the member during the tax year.

Apportioning the general business credit

The $25,000 limit on the dollar-for-dollar reduction of the tax liability by the general business credit must be apportioned among component members of a controlled group (Sec. 38(c)(6)(B)). The dollar-for-dollar reduction amount can be apportioned among the members of the controlled group in any manner as long as an apportionment plan is adopted (Regs. Sec. 1.46-1(p)). Otherwise, the amount is apportioned equally among all members of the group. Both the 80% test and the more-than-50% test apply in determining whether a brothersister controlled group exists for the $25,000 limit.

Planning tip: If one member of the group has a general business credit for the year and the other member does not, then apportion the $25,000 reduction amount to the member that does not have any credits; however, ensure that an apportionment plan is filed.

Allocating the research credit

The Sec. 41 research credit equals 20% of the taxpayer’s qualified research expenses (QREs) for the year in excess of the base period expenses for the year plus 20% of the basic research payments. Taxpayers may also elect to use an alternative method for computing the research credit: the alternative simplified credit (Sec. 41(c)(4)). Although calculated in a different manner, credit amounts derived from using the alternative simplified credit method are allocated among members of a controlled group in the same manner as the regular Sec. 41 credit.

Special rules allocate the research credit between members of a controlled group of corporations or among commonly controlled businesses (Sec. 41(f )(1)). Each member’s credit is based on the member’s share of the group’s total QREs, basic research payments, and amounts paid to energy research consortiums. This means it is no longer necessary to compute each member’s stand-alone credit.

All members of a controlled group calculate the credit as a single taxpayer (Regs. Sec. 1.41-6(b)). The group credit is then allocated to each member of the controlled group on a proportionate basis to its share of the aggregate of the QREs, basic research payments, and amounts paid or incurred to energy research consortiums considered for the year (Regs. Sec. 1.41-6(c)). Members of a consolidated group are treated as a single member of the controlled group (Regs. Sec. 1.41-6(d)). For example, if A, B, C, D, and E are members of a controlled group, and A, B, and C are a consolidated group, A, B, and C are treated as a single member for allocating the group credit.

Example 1. Allocating the research credit among members of a controlled group: A Corp., B Inc., and C Co. are a controlled group. A had $100,000, B had $300,000, and C had $500,000 of QREs for the year, totaling $900,000 for the group. A also made a payment of $100,000 to an energy research consortium for energy research. The group’s QREs total $1 million, and the group calculated a total research credit of $60,000 for the year.

Based on each member’s proportionate share of the controlled group’s aggregate QREs, the credit is allocated $12,000 to A (2⁄10 × $60,000); $18,000 to B (3⁄10 × $60,000); and $30,000 to C (5⁄10 × $60,000) (Regs. Sec. 1.41-6(e)).

Apportioning pension and profit-sharing plan items

Corporations that are members (rather than component members) of a controlled group must apportion among themselves various items relating to pension and profitsharing plans, such as qualification, participation, and vesting rules (Sec. 414(b); Regs. Sec. 1.414(b)-1).

Using an apportionment plan

Tax benefits are divided equally among the component members of the controlled group unless each member consents to an apportionment plan providing for the unequal allocation of such benefits. For instance, component members of a controlled group are permitted to allocate the accumulated earnings credit unequally if they have an apportionment plan in effect (Regs.

Sec. 1.1561-2(c)).

Note: Failing to file an apportionment plan causes group members to receive equal portions of each of the tax benefits available, which rarely results in the best outcome.

Apportionment filing requirements

Generally, tax benefits and allowances can be apportioned among component members of a controlled group in any manner as long as all members consent in writing to the apportionment.

Consenting to apportionment

The members of the group must consent in writing to any apportionment plan. The apportionment is made as of each Dec. 31 for the tax year of each member of the group that includes that Dec. 31. To consent to an apportionment plan, a corporation must be a member of the group on the particular Dec. 31 for which the apportionment is adopted.

Regs. Sec. 1.1561-3(a) provides guidance for consenting to an apportionment plan. For each tax year that a corporation is a component member of the same controlled group of corporations, it and all other component members of the group must each file Form 1120, Schedule O, Consent Plan and Apportionment Schedule for a Controlled Group, with each federal income tax return. Schedule O is the only allowed method for adopting, amending, or terminating an apportionment plan.

Once an apportionment schedule is filed, it remains in force as long as the makeup of the group does not change or the allocation is not amended.

If a controlled group fails to adopt the most beneficial apportionment schedule for a particular year, an amended schedule (or a new schedule, if none was filed previously) generally can be filed. This schedule will ordinarily be accepted only if at least one year remains in the statutory period for the assessment of a deficiency against each corporation whose tax liability will be increased by the adoption of the schedule. However, if less than one year is left for any members of the group, the IRS will normally grant a request to extend the statute of limitation for the members to permit a retroactive amendment (or adoption) of an apportionment plan (Regs. Sec. 1.1561-3(c)(2)). When none of the members’ tax liabilities increase as a result of a retroactive apportionment, the IRS allows an amended apportionment to be filed after the expiration of the statute of limitation (Rev. Rul. 70-526).

The procedures to follow in adopting an amended plan are the same as those involved when returns are originally filed (Regs. Secs. 1.1561-3(a) and (c)).

A separate rule applies to the Sec. 179 deduction. If a consolidated return is filed for all component members of the controlled group, the allocation may not be revoked after the due date, including extensions, of the common parent’s return on which the Sec. 179 election is made. If some or all the component members file separate returns for the tax year including a particular Dec. 31, the allocation cannot be revoked after the due date, including extensions, of the return of the member whose tax year ends the latest (Regs. Sec. 1.179-2(b)(7)(iii)).

Meeting the componentmember tests

A corporation is a component member of a controlled group for any tax year for which it meets one of the following two tests (Sec. 1563(b)):

1.The corporation is a member of a controlled group on the Dec. 31 falling within such tax year and is not an excluded member. Corporations excluded under Sec. 1563(b) (2) and Regs. Sec. 1.1563-1(b) (2) from being members of a controlled group include:

• Corporations that have been members of the group for less than half the number of days in their tax year that precede the Dec. 31 membership determination date.
• Corporations exempt from tax under Sec. 501(a) (except a corporation that is subject to tax on its unrelated business taxable income under Sec. 511).
• Foreign corporations not subject to tax under Sec. 881.
• Insurance companies subject to tax under Sec. 801. However, insurance companies may form their own controlled group (Sec. 1563(a)(4)).
• Franchised corporations as defined in Sec. 1563(f )(4).
• S corporations for purposes of any tax benefit item to which they are not subject.

The corporation is not a member of a controlled group on the Dec. 31 falling within such tax year but is treated as an additional member (Sec. 1563(b)(1)). An additional member is a corporation that was a member of the controlled group (other than an excluded member) for half or more of the days in its tax year preceding Dec. 31, even though it was not a member on that date (Sec. 1563(b)(3)).

Example 2. Meeting component-member tests: A owns 100% of the stock of Corporations P and S throughout the year. P and S each have a calendar tax year. On Jan. 1, A also owns 100% of the stock of Corporation T, which has a fiscal year ending June 30. On Oct. 15, A sells all the stock of T. On Dec. 1, A buys all the stock of Corporation Z, which uses a fiscal year ending Aug. 31.

The status of each corporation is summarized as follows:

• Corporations P and S are component members of the group on Dec. 31 because they were members of the group on that date and are not excluded members.
• Although not a member of the group on Dec. 31, Corporation T is still considered a component member because it qualifies as an additional member. The corporation was a member of the group for at least half the number of days during the period beginning on July 1 (the first day of its tax year) and ending on Dec. 30 (Regs. Sec. 1.1563-1(b)(4), Example 1). (Number of days T was a member of the group (107) ÷ number of days in tax year preceding Dec. 31 (183) = 58.5%.)
• Corporation Z is excluded from being a component member because it was a member of the group for less than half the number of days during the period beginning on Sept. 1 (the first day of its tax year) and ending on Dec. 30. Thus, it does not have to share tax benefits with the group; it is entitled to 100% of these benefits. (Number of days Z was a member of the group (29) ÷ number of days from Sept. 1 to Dec. 31 (121) = 24%.)

The determination of component membership in a controlled group is made as of each Dec. 31. In other words, generally, the previously discussed relationships must exist among the corporations on Dec. 31 for the corporations to be considered component members for that tax year (Sec. 1563(b)(1)).

Belonging to more than one controlled group

A corporation may be considered a component member of more than one controlled group (i.e., there may be overlapping groups). In such situations, the corporation will not be treated as a member of more than one brother-sister group (Sec. 1563(b)(4)).

The corporation can elect the brother-sister group to which it wants to belong (Regs. Sec. 1.1563-1(c)(2) (i)). If a corporation qualifying for membership in two brother-sister groups does not make an election, the IRS can make the election for the corporation (Regs. Sec. 1.1563-1(c)(2) (iii)). This could result in unfavorable tax consequences for the corporation and the other members of the group.

When ownership of certain shares of a corporation causes it to be considered a member of one group because of the value of those shares, and ownership of other shares causes it to be considered a member of another group based on the voting power of the second group of shares, the corporation is treated as a component member only of the group of which it is a member by reason of ownership of 80% or more of the total value of its shares (Regs. Sec. 1.1563-1(c)(1)).

Contributor

Shannon Christensen, J.D., MBT, is an executive editor with Thomson Reuters Checkpoint. For more information about this column, contact thetaxadviser@aicpa.org.