The good news is that with effect from taxable years beginning after December 31, 1996, S corporations may now own 80 percent or more of a C corporation or 100 percent of a qualified subchapter S subsidiary (QSSS). However, an S corporation may not elect to file a consolidated tax return with a C corporation.
In the United States, before congress passed the 1996 act, S corporations generally were not allowed by law to be part of an affiliated group of corporations. The implication of this is that they could not own up to 80 percent or more of another corporation. Also, an S corporation was not allowed to have another corporation as a shareholder.
What is a QSSS?
A QSSS is any domestic S corporation wholly owned by an S corporation parent that elects to treat it as a QSSS. The QSSS, for tax purposes, is not treated as a separate corporation and all its assets, etc., are treated as assets, etc., of the parent S corporation.
This provision of the law allows taxpayers to form tiers of corporations with an S corporation owning the stock of C corporations when the individual shareholder does not wish to directly own the C corporation stock.
Also, when a shareholder for non tax reasons wishes to form several S corporations (the shareholder wants each business to be separate for liability reasons), he or she no longer must own all the stock directly and file separate income tax returns for each corporation.
The taxpayer can cause one S corporation to own all the stock of the other S corporations and treat the subsidiary corporations as QSSSs.
This would allow the parent S corporation to file just one income tax return—thereby reducing administrative costs and burdens. Before making a decision on such an organizational structure, however, the state tax implications should be examined.
Please note that under IRS notice 97-4 (IRB 1997-2), when the parent corporation makes the election, the subsidiary is deemed to have liquidated under IRC sections 332 and 337 immediately before the election is effective. Such liquidations generally are nontaxable.
When a corporation liquidates under section 332, that corporation must file Form 966, Corporate Dissolution or Liquidation, within 30 days of the adoption of the liquidating plan or resolution. In addition, the corporation must file a return for the short period ending on the date it goes out of existence.
It is important to note that the IRS and Treasury Department intend to issue regulations describing the manner in which a QSSS election must be made and the effective date of the election. Until regulations are issued, however, taxpayers should follow the procedures listed in notice 97-4 to satisfy the election requirements.
To start with, why would a C Corporation want to own an S Corporation? In order to aptly capture this, it will be nice to compare the similarities of S Corporation and C Corporation and also the advantages and disadvantages of both.