Minimizing tax implications during “C” to “S” corporation conversion
Many companies find that converting from “C” corporation to “S” corporation status can be beneficial from both a tax and operation standpoint. C corporation owners can convert their company to an S corporation without triggering an immediately taxable transaction in most cases. However, there are a number of potential tax traps that can arise in a conversion if not properly planned. One of the most frequent, and costly, tax implications of a C-to-S conversion is the built-in-gains (BIG) tax.
Taxable BIG occur when an S corporation sells or distributes certain specified assets within five years after the date of the company’s conversion from C corporation status, or when a converted S corporation acquires assets with carry-over basis from a predecessor C corporation. Because the BIG tax is imposed at the top tax rate for corporations, tax advisers should look closely at asset planning prior to completing the S corporation conversion.
In planning for and reporting a C-to-S conversion, tax advisers must account for net unrecognized BIG as well as built-in losses. IRC Section 1371 provides for a netting mechanism to potentially lessen the impact of the BIG tax. Planners can also utilize carry-forward C corporation attributes to minimize BIG tax.