Discussion:Change from a C corp to a LLC
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Discussion Forum Index --> Tax Questions --> Change from a C corp to a LLC
| 16 July 2006 | |
| I have a client that has been in operation for about three years. He decided on the C corp entity without any advice from a tax professional. He now understands that he should have started as an LLC. He wants his tax return for 2005 to reflect this change in status. He has filed the articles with the state to make the change. My problem as his tax preparer is that I have never prepared a return that has had this kind of change. I am embaressed to say that I know no more about the subject than I do. Can anyone give me any advise on what issues I should be aware of and generally how to go about making this change when I file his 2005 federal tax return? I would appreciate any help I can get. I am a one person firm and do not have a lot of peers to run these types of things by. Thank for any help. | |
| 16 July 2006 | |
| It is possible to switch from a C Corporation to an LLC taxed as a corporation or S corporation without adverse tax effects. See Sec. 368(a)(1)(F). However, if your client wishes his LLC to be taxed as a partnership or sole proprietorship, the normal liquidation taxes would apply to the corporation and the shareholder at the time of the conversion. | |
| July 17, 2006 | |
| There is no Sec. 351/721 for a tax free 'unincorporation'. This will be a straight up liquidation, like any other, and afterwards, creating the LLC. This rarely makes sense unless it's a service biz with nothing appreciated in assets.... | |
| 17 July 2006 | |
| JR1, a liquidation followed by a reincorporation is a Type F reorganization. The operative clause in 368(a)(1)(F) is "a mere change in identity, form, place of organization of one corporation, however effected....." I see no tax consequence to a state law interspecies conversion of this type as long as the client makes a timely check the box election to be taxed as a corporation. | |
| July 17, 2006 | |
| But in this case, Riley, he's not talking about reinc'ing. Rather creating an LLC, which I presumed would be disregarded Sch. C or a 1065 filer. | |
| 17 July 2006 | |
| The key here is to make sure that the check the box election is made so that there is in fact a reincorporation. | |
| July 17, 2006 | |
| But that's not what he's after. He's trying to get out of corp status...so that won't help...just wanted to make sure I wasn't missing something. If he's inc'd, but doesn't want to be, he's facing a liquidation like any other. | |
| 17 July 2006 | |
| Ok. It took me a while, but I now understand that the client is unhappy with the tax structure of a corporation, and would prefer to be taxed as an LLC. You are quite right in asserting that this would be a corporate liquidation and all of the normal liquidation taxes would apply.
Here in California, I am seeing quite a number of corporations that are switching to the LLC legal entity because of superior asset protection features, but would prefer to continue to be taxed as a corporation. This can be done without adverse tax consequences. | |
| 18 July 2006 | |
| Riley2: What are the "superior asset protection features" afforded an LLC versus a corporation under CA law? Thanks. | |
Truthseeker (talk|edits) said: | 18 July 2006 |
| Riley2 and JR1 you both went off into a sidebar discussion and PGattoCPA jumped in and wanted to know the law of CA. Can someone sum up the request for JennCPA ? I would like to know the outcome myself. Thanks | |
Taxguy1024 (talk|edits) said: | 18 July 2006 |
| Are those "superior asset protection features" unique to California? Perhaps I have not read our state statute closely enough (Alabama), but that doesn't appear to be the case here. | |
| 18 July 2006 | |
| C corporation with two shareholders wants to transfer appreciated land along with the related Note Payable to a recently formed LLC having the exact same ownership as the C Corporation. The C Corporation will continue to exist. Can this be done with no tax effect to the C Corporation? or... can the LLC purchase the asset at cost basis from the C Corp?
Note: see Discussion:C converting to S, cash basis with receivables and Discussion:Susanrid - Consider Corporate Reorg with regard to Susanrid's question. | |
| 19 July 2006 | |
| Truthseeker, to summarize -- unless the LLC makes a check the box election to be taxed as a corporation, the state law conversion of the corporation to an LLC (interspecies conversion) is treated as a liquidation of the corporation for tax purposes. This means all the assets of the corporation are treated as being sold at FMV, then distributed to the shareholders as a taxable liquidating dividend. | |
| 20 July 2006 | |
| Comments on asset protection features of an LLC -- since I am not a member of the California state bar, I am not allowed to tell you that the asset protection features of an LLC stem from the fact that in many states (including California), a judgment creditor of an LLC member cannot attach the membership interest itself, thereby becoming a member (charging order rule). I am also not allowed to tell you that a judgment creditor of an LLC member can obtain a “charging order” against the LLC, thereby becoming entitled to the distributions otherwise payable to the judgment debtor. In addition, I am not allowed to say that the judgment creditor cannot actually become a member of the LLC in a charging order state without the consent of the other members. Nor can I tell you that this is different from a judgment creditor of a shareholder in a corporation, in which case the judgment creditor is allowed to take title and possession of the shares in the corporation, although in California the judgment creditor can ask the court to foreclose on the charging order, thereby becoming a permanent assignee of the membership interest (but not necessarily a full-fledged member).
Since I am not a member of the Alabama state bar, I cannot tell you that Alabama is a charging order state under Ala. Code 1975 § 10-12-35. Also, since I am not a member of the California state bar, I cannot say that the term “asset protection” really means that the operations of the LLC will not be disrupted by a judgment creditor’s judgment against a member if the LLC is located in a charging order state. | |
| 20 July 2006 | |
| Lincoln2: If you had been allowed to tell us, then I would have been allowed to thank you. However, since you are not allowed to tell us, then I am not allowed to not thank you. Wait - that's a double negative's worth of thank you, so I guess I am allowed to thank you for not telling us what you could not tell us. Thanks (I think)! | |
| 20 July 2006 | |
| JennCPA, you need to discern the motivation of the client for wanting to convert to an LLC. If asset protection, as discussed by Riley and Lincoln2 is the motivating factor, forming the LLC and making an election to have it taxed like a corporation as Riley has pointed out may do the trick. If tax is the motivation, consider exploring an S election with the client. An S election will allow the client to avoid double taxation inherent in a C corporation, but will avoid the negative tax consequences of liquidation as discussed by Riley and JR. The S election will require a 10 year waiting period to avoid the Built-in Gains tax and may necessitate a business valuation to establish the value of the assets, including goodwill, in case the business is sold within the 10 year period. | |
| 9 December 2006 | |
| I have a client who is buying a C-Corp which owns a business, building and the land. He wants at close of escrow to transfer to an LLC. I saw from the earlier discussion he can make the change and the LLC could be taxed as a Corporation without any adverse affect. So he would transfer to the LLC and file form 1120 vs form 1065 under those circumstances, right? My next question is if he wishes to have the LLC taxed as a partnership then am I to understand the only option is a complete liquidation. Does it make a difference that he is making this change at time of purchase? I appreciate any help in this matter. Thank you!! | |
| 11 December 2006 | |
| Is you client buying assets or stock? If buying stock, then the change from a c-corp to a 1065 LLC will be constitute a corporate liquidation and will be a taxable event. If he is buying assets, not stock, then the tax bite is the seller's problem. You are free to put the assets in an LLC. | |
| 11 December 2006 | |
| AMINK:
If your client wants a step up in the basis of the assets, somebody's going to have to pay tax on the gain (excess of the purchase price over the tax basis of the assets in the hands of the Target). If he doesn't care about a step-up in basis, he can just buy the Target stock. That way he gets the assets, but with their old inside basis. Then I believe he can merge the Target with an LLC that has elected C corporation status with no tax consequence. Assets still have their old inside basis. Then if he wants it to be a flowthrough, the LLC can make an S election; however, it will have potential built-in gains tax liability if the assets (including inventory) are sold within the statutory period (IIRC, it's 10 years). On the other hand, if he just buys the assets, he gets a step up in basis with no tax consequence to him, and doesn't become heir to any contingent or hidden liabilities the corporation might be dragging along with it. He can then contribute the assets to his new LLC with no tax consequences. The tax on the gain on the asset sale is the seller's responsibility. The LLC can elect to be taxed either as a corporation or as a partnership (or disregarded entity, if he is the single member). If the assets include tangible personal property (other than inventory held for resale), and you buy the assets, and you're in a state that imposes sales and use taxes, there will be sales tax on the purchase price of the tangible personal property. On the other hand, if you just buy the stock, generally there is no sales or use tax, and there is no sales or use tax on the contribution of the assets to the commencing LLC. This may not be the case in all states, though, so be sure to check out the sales and use tax consequences of buying the stock vs. the assets in your state. BTW, if the business he is buying requires registration as a retailer for sales and use tax purposes in your state, make sure to either get a tax clearance from the state tax agency or nail down an enforceable indemnification agreement from the seller (and remember, a seller who is here today may be gone tomorrow <G>). The buyer of a business may be liable to the state as successor to the seller for previously undetermined and unpaid sales and use tax liabilities. | |
| 12 December 2006 | |
| KatieJ:
Thank you for your help!! Another question, what if my client buys the C-Corp stock which hold the building and the land, changes to an S-Corp, levels the building and developes it into multiple units with individual parcel numbers. Can he sell off some of the new parcels or units when completed before the 10 year waiting period and still avoid the built in gains if he holds some of the new units for the full 10 years? If not what if he did an exchange on part of it and held the rest for the full 10 years? Thanks! | |
| 12 December 2006 | |
| I think you could do a 1031 exchange without triggering the BIG; you'd just carry the C corporation's inside basis into the property acquired in the exchange. And then, if you sold the acquired property within 10 years of the S election, you'd trigger the BIG. And I'm pretty sure you couldn't divide the property up and sell pieces of it without triggering BIG on every sale. | |
Corptaxhelp (talk|edits) said: | December 18, 2006 |
| AMINK, if your client ends up buying the assets instead of the stock, I'd like to speak with you. I have some investors who may be interested in buying the stock after your client buys the assets. In most cases, it is best for the buyer to buy assets, not stock. The reverse is almost always the case for the seller -- he wants to sell the stock, not just the assets.
As to the issue at hand, KatieJ nailed it with one bit of emphasis on my part... a 1031 exchange just delays the taxes, it doesn't get rid of them. | |
| 25 September 2008 | |
| Client wants to give up half of his stock in a c corp to another company in exchange for distribution rights. The structure proposed by attorneys was to put stock into an LLC and split that way. My opinion is that a type b merger into a c corp would be more tax advantageous. Opinions will be appreciated. | |
| 10 December 2009 | |
| I have the same question. I need to know how to change from C-corp to LLC. The forms that i need to file, and the time it would take to make the transition. If someone has tax codes that would be really helpful. This is a high-tech company. Assets are inmaterial, no debt, and no cash flow problems. I would like to plan for the transition ahead of time. Thanks again, for any feedback on this issue. | |
| 26 January 2010 | |
| I have a client who recently divorced. Wife relinquished rights to C Corporation business in exchange for all other marital assets. Further client would benefit from the S corp status as he's always looking for ways to pull cash out of business and as you know while a C Corp provides superior fringe options, the only way to pull cash out of a C corp is salary/fringes or double taxed dividends.
He wants to disolve C Corp and start S Corp new... in this case would I have to liquidate the C corporation and create the S corporation (I would want to do the LLC and check the box for S Corp) and still be required to do the 10 year look back requirement? The corporation has a decent amount of cash and some leasehold improvements but not much else. Does anyone have a checklist or any practice quide they can recommend. | |
