830 CMR, § 63.30.3
Under the federal check-the-box rules, unincorporated businesses with two or more members are allowed to elect to be taxed either as corporations or as partnerships. Also, unincorporated associations with a single member may elect to be taxed as corporations or they may elect to be disregarded as an entity separate from their owner, thus being treated as a branch or division of their owner for tax purposes. Pursuant to St. 2008, c. 173, an entity's federal check-the-box election or default federal classification will also apply for Massachusetts personal income tax and corporate excise purposes; no separate Massachusetts election is required or permitted.
The check-the-box rules have applied in Massachusetts to limited liability companies (LLCs) since 1997. Thus, the statutory change pursuant to St. 2008, c. 173 will apply particularly to partnerships and to corporate trusts. Formerly, partnership status for purposes of M.G.L. c. 62, § 17 (and related personal income tax and corporate excise provisions) has been generally determined by evaluating various legal and factual characteristics of the entity. "Corporate trusts" - that is, business trusts, or certain other entities (such as partnerships) with transferable shares, as defined in M.G.L. c. 62, § 1(j) have been subject to the rules at M.G.L. c. 62, § 8. Because federal law has no separate tax classification for corporate trusts, the recent legislation repeals the specific Massachusetts rules that applied to the taxation of corporate trusts.
All federal S corporations are now subject to the entity level tax that applies to S corporations in Massachusetts under M.G.L. c. 63, § 32D, notwithstanding the entity's legal form of organization. Formerly, a qualified federal Subchapter S corporation subsidiary (QSUB) was subject to an entity level tax separate from its parent. St. 2008, c. 173 changes this, and a QSUB is now evaluated together with its parent in determining the parent S corporation's Massachusetts tax liability.
830 CMR 63.30.3 addresses the statutory changes and the effect they will have on an entity's status and returns, both in the transitional year and in future years. It explains the tax consequences of the classification changes, which generally would result in a deemed incorporation, reorganization or liquidation depending on the circumstances. Under St. 2008, c. 173's transition rule authority effective as of July 3, 2008, 830 CMR 63.30.3 also describes consequences of transactions, distributions, and other events occurring on or after July 3, 2008, and prescribes methods by which tax-free earnings and profits of corporate trusts are taxed to entities or successors or to their direct or indirect owners, partners, or beneficiaries. Finally, 830 CMR 63.30.3 states the rules for changes to the estimated payment obligations of an affected entity and its shareholders or members.
This guidance does not address every issue related to Massachusetts' conformity with federal entity classification; special adjustments or tax consequences not specifically considered in this document may be required in particular cases in order to achieve Massachusetts tax treatment and consequences consistent with the legislative changes effected by St. 2008, c. 173 and 830 CMR 63.30.3.
Business Corporation, any corporation, or any 'other entity' as defined in M.G.L. c. 156D, § 1.40, whether the corporation or other entity may be formed, organized, or operated in or under the laws of the Commonwealth or any other jurisdiction, and whether organized for business or for non-profit purposes, that is classified for the taxable year as a corporation for federal income tax purposes.
Corporate Trust, an entity that was taxable under the former M.G.L. c. 62, § 8, repealed by St. 2008, c. 173 (effective for taxable years beginning on or after January 1, 2009), and defined as any partnership, association or trust, the beneficial interest of which is represented by transferable shares. This category often includes entities generally described as business trusts.
Disregarded Entity, an entity that is disregarded as a separate entity from its owner for federal income tax purposes. Such an entity shall similarly be disregarded for purposes of 830 CMR 63.30.3, and without limitation, all income, assets, and activities of the entity shall be considered to be those of the owner.
Member, may include, without limitation, a partner in an entity that is organized as a partnership, including a limited partner in a limited partnership; a member of an LLC; a shareholder in a corporation or a corporate trust; or any other type of owner of an interest in an incorporated or unincorporated association the income of which is subject to taxation in Massachusetts.
Partnership, an entity that is classified for the taxable year as a partnership for federal income tax purposes, except as otherwise provided in 830 CMR 63.30.3.
Tax-free Earnings and Profits, earnings and profits that were considered tax-free earnings and profits under M.G.L. c. 62, § 8, as in effect on December 31, 2008, including such amounts that have accrued or may accrue under certain specific circumstances as described in 830 CMR 62.8.2(4)(b).
Generally, under the federal default rules that apply in the absence of an affirmative election on Form 8832, an entity that is eligible to choose its entity classification and does not do so is treated, in the case of a domestic (that is, U.S.) eligible entity; as a partnership if it has two or more members; or as disregarded as an entity separate from its owner if it has a single owner. A foreign (non-U.S.) eligible entity is treated as a partnership if it has two or more members and at least one member does not have limited liability, a corporation if all members (whether one or more) have limited liability, or disregarded as an entity separate from its owner if it has a single owner that does not have limited liability. See 26 CFR 301.7701-3(b).
St. 2008, c. 173 revises various Massachusetts definitions of a business entity. For purposes of M.G.L. c. 63, the introductory clause to the corporate excise provisions at M.G.L. c. 63, § 30, is revised to state that ". . . the terms "business corporation," "disregarded entity," and "partnership," defined in M.G.L. c. 63, § 30 paragraphs 1, 2 and 16, shall, unless otherwise provided, also have the following meanings and effect for all purposes of 830 CMR 63.30.3." 830 CMR 63.30.3(3) clarifies that the use of these terms is consistent throughout the corporate excise provisions in M.G.L. c. 63, including in the context of financial institutions, under M.G.L. c. 63, §§ 1 through 7, insurance companies, under M.G.L. c. 63, §§ 20 through 29E, and utility corporations, under M.G.L. c. 63, § 52A.
Consistent with the definition of "business corporation," St. 2008, c. 173 similarly defines "corporation" for purposes of the definition of "financial institutions" that are subject to the financial institutions excise, M.G.L. c. 63, §§ 1 through 7, by adding the following sentence:
"The term 'corporation' as used in this definition shall mean any corporation, or any 'other entity' as defined in M.G.L. c. 156D, § 1.40, whether the corporation or other entity may be formed, organized, or operated in or under the laws of the commonwealth or any other jurisdiction, that is classified for the taxable year as a corporation for federal income tax purposes."
Under federal entity classification rules, entities that are formed in any state as a corporation, and certain foreign entities that are treated as "per se" corporations, must file as a corporate taxpayer, and are not allowed to elect their classification under the check-the-box rules. See Treas. Reg. §§ 301.7701-2, 301.7701-3(a). In addition to classification under the check-the-box rules, certain specialized federal classifications also apply in Massachusetts. For example, certain publicly traded partnerships are treated for federal purposes as corporations, IRC § 7704, generally including all publicly traded partnerships unless 90% or more of the gross income of the entity consists of certain qualifying income (generally, investment-type income). See IRC § 7704, Treas. Reg. §§ 1.7704-1, 1.7704-3. Another example of special federal treatment is the case of a partnership that if considered as a corporation could qualify as a Regulated Investment Company under IRC § 851; such an entity is exempt from the corporate filing requirement if it meets certain conditions. IRC § 7704(c)(3). In addition, following federal tax treatment, a real estate investment trust (REIT) may own a "qualified REIT subsidiary". Such subsidiary is not treated as a separate corporation for federal purposes and will also not be treated as a separate corporation for Massachusetts purposes; and following federal treatment, the REIT will treat all of the subsidiary's assets, liabilities and items of income, deduction, and credit as its own. See IRC § 856(1).
St. 2008, c. 173 provides the following rules for calculating basis that apply to all taxpayers subject to taxation under M.G.L. c. 63. St. 2008, c. 173, § 46, adding M.G.L. c. 63, § 31M. M.G.L. c. 63, § 31M reads in its entirety:
Section 31M. In determining gross income under 830 CMR 63.30.3, if the federal gross income includes any item of gain or has been reduced by any item of loss, with respect to property, then the federal gross income shall be increased by the excess of the federal adjusted basis of the property over the Massachusetts adjusted basis of the property, and shall be decreased by the excess of the Massachusetts adjusted basis of the property over the federal adjusted basis of the property, so that the gain or loss realized for Massachusetts purposes takes into account all applicable differences in the Massachusetts and federal tax rules over the life of an asset that should, in principle, give rise to differences in basis. The Massachusetts adjusted basis of property shall be the federal adjusted basis, except that any federal adjustment resulting from provisions of the Code that were not applicable in determining Massachusetts gross income at the time the federal adjustments were made shall be disregarded; and adjustments shall be made for any item that was applicable in determining Massachusetts gross income but that was not so applicable in determining federal gross income and for which a federal adjustment would be allowed under the Code if the item had been applicable in determining federal gross income. Without limitation of the foregoing, the federal basis of shares in a business corporation that was formerly treated as a corporate trust or of shares in a successor of that entity shall be reduced in computing Massachusetts adjusted basis to take into account any tax-free earnings and profits accumulated by the former corporate trust.
Among other things, the last sentence of these basis adjustment provisions provides a method of ensuring that in the case of an entity that is treated under the new rules as a corporation but that was previously taxed as a corporate trust under M.G.L. c. 62, § 8, any accumulated tax-free earnings and profits of such corporate trust are recognized and taxable no later than when the shares of the successor corporation are sold or otherwise transferred. This basis adjustment is discussed further in 830 CMR 63.30.3(4)(a) and (b), in connection with various transactions or deemed transactions involving corporate trusts (or their successor entities) and the shareholders or other members thereof.
Massachusetts formerly subjected QSUBs to separate entity-level tax, both for income and non-income measure purposes. However, under St. 2008, c. 173, an S corporation must take into account its QSUB's income, loss, deductions, and credits in determining its net income as may be subject to tax under M.G.L. c. 63, §§ 2B or 32D. In determining the non-income measure of the corporate excise under M.G.L. c. 63, § 39, the S corporation parent will take into account the QSUB's property for purposes of measuring its tax liability. There is no longer a separate income or non-income measure for the QSUB, and the QSUB is no longer considered a separate entity for any corporate excise purpose. Accordingly, the S corporation, rather than a QSUB, will in every case also be responsible for the minimum tax under M.G.L. c. 63, § 39, where applicable.
M.G.L. c. 63, § 30.16 adds a similar definition of partnership to the corporate excise provisions, at M.G.L. c. 63, § 30. See St. 2008, c. 173, § 42.
Prior to adoption of St. 2008, c. 173, the term "partnership" was not defined in M.G.L. c. 62 (or for purposes of applying the provisions of M.G.L. c. 63). By the new definition, an entity will be treated as a partnership for purposes of the Massachusetts personal income tax and corporate excise provisions if it elects partnership treatment for federal tax purposes, or meets the default category for partnership treatment under federal rules, notwithstanding its organization in Massachusetts as a partnership, corporate trust, limited liability company, or any other unincorporated form of association.
The accounting shall be broken down by year, showing the tax-free earnings and profits attributable to each year, the Massachusetts apportionment percentage of the trust for that year (to be used by non-residents in calculating their tax liabilities), and noting for each entry under what regulatory category (namely, 830 CMR 62.8.2(4)(b)1., 2., 3., or 4.) the earnings are derived. The accounting must show for each year the beginning balance of tax-free earnings and profits, any accruals to and any distributions from such tax-free earnings and profits during the year, and the ending balance for the year. The former corporate trust or successor thereto must report to its members their proportionate share of tax-free earnings and profits, broken down by taxable year. With respect to members that were residents of Massachusetts for all or a part of any tax year in which such tax-free earnings and profits were accrued, the report must show any income taxes paid by the corporate trust to other states with respect to such earnings and profits. With respect to members that were non-residents for all or a part of any tax year in which tax-free earnings and profits were accrued in the categories described in 830 CMR 62.8.2(4)(b)1., 2. or 4., the report must include the apportionment percentage of the corporate trust for that year. Non-residents are not taxable on tax-free earnings and profits that accrued in the category described in 830 CMR 62.8.2(4)(b)(3).)
Distributions Out of Tax-free Earnings and Profits Taxed as Dividend Income. All distributions made on or after July 3, 2008 by any entity (including C corporations, S corporations, partnerships, disregarded entities, or any other form of entity), or a successor thereto, that at any time on or after July 3, 2008 was in existence as a corporate trust, shall be deemed to be dividends, taxable as dividend income, to the extent there are remaining tax-free earnings and profits that have not been subject to Massachusetts taxation, and any distributions shall be deemed to have been paid first out of any tax-free earning and profits of the paying entity. Such distributions shall be recognized as income by the recipient in the taxable year of the recipient in which they are distributed by such corporate trust. Such treatment as dividend income shall not be required to the extent that such tax-free earnings and profits have already been required to be taxed as dividend income pursuant to other rules described in 830 CMR 63.30.3.
The entity paying such dividends must notify the recipient that the dividends are deemed to represent taxable dividend income derived from tax-free earnings and profits. Massachusetts resident taxpayers are allowed a credit for income taxes paid to other jurisdictions on dividends received out of tax-free earnings and profits of such a corporate trust. See M.G.L. c. 62, § 6(a), as amended by St. 2008, c. 173, § 17.
Non-resident members must report such taxable dividends as Massachusetts source income to the extent of any tax-free earnings and profits apportioned to Massachusetts that accrued in the categories described in 830 CMR 62.8.2(4)(b)1., 2. or 4. In determining a non-resident's share of tax-free earnings and profits apportioned to Massachusetts, the member shall apply the apportionment percentage of the former corporate trust attributable to any year the member was a non-resident in which such tax-free earnings and profits were accrued under 830 CMR 62.8.2(4)(b)1., 2. or 4. Non-residents who were residents during any year the former corporate trust accumulated tax-free earnings and profits must report as Massachusetts source income all distributions out of all such tax-free earnings and profits without apportionment, but are entitled to the credit for taxes paid to another jurisdiction in the manner of a resident for that year. Note that all tax-free earnings that are taxable to non-residents remain taxable indefinitely, wherever and for however long the nonresident continues to receive such distributions/dividends.
Thus, in the case of a corporate trust filing a calendar year return and with shareholders also filing calendar year returns, deemed distributions due to untaxed earnings and profits of the corporate trust occur on December 31, 2008 and are recognized by shareholders on their calendar 2008 return. The rules described in 830 CMR 63.30.2(3)(d)2 regarding a potential credit for resident shareholders for income taxes paid to other jurisdictions and regarding the potential application of apportionment rules for non-resident shareholders shall apply to these deemed distributions of taxable dividend income as well.
It is the intent of 830 CMR 63.30.3 and of 830 CMR 63.30.3(3)(d) in particular, to effectuate the purpose of St. 2008, c. 173 to ensure that all tax-free earnings and profits are subject to Massachusetts taxation to the extent permitted by law. Nothing in this document should be construed to provide a limitation on the taxation of tax-free earnings and profits, or to provide a means of postponing or avoiding the taxation of tax-free earnings and profits. Example (3)(d). HoldCo is a calendar-year entity organized in Massachusetts as a Massachusetts business trust with transferable shares. As of July 3, 2008, HoldCo is treated for Massachusetts taxation purposes as a corporate trust subject to taxation under M.G.L. c. 62, § 8. HoldCo has assets worth $100M. It has 100,000 outstanding shares, held by five shareholders. HoldCo is treated for federal purposes as an S corporation. On September 1, 2008, the shareholders of HoldCo agree to cause HoldCo to issue non-voting shares, representing 50% of the ownership interest of HoldCo, and to cause such shares to be contributed to HoldCo Foundation, a tax-exempt charitable foundation.
HoldCo has $5M of tax-free earnings and profits, based on the properly-completed accounting of tax-free earnings and profits that HoldCo is required to submit to DOR. As discussed above, any direct or indirect transfer of an interest in a corporate trust will trigger the taxable recognition of tax-free earnings and profits as dividend income to the shareholders. Thus, the shareholders must collectively recognize 50% of the total tax-free earnings and profits as taxable dividend income (the 50% figure representing the percentage of the value of the business that was transferred to the charitable foundation) on their first tax return due after the close of HoldCo's 2008 taxable year. Any resident shareholders may claim a credit for income taxes paid to other jurisdictions on the tax-free earnings and profits taxed to them as dividend income. Any shareholder that is a non-resident for taxable year 2008 must recognize taxable dividend income under the rules described in 830 CMR 63.30.3(3)(d)2. that apply in the event of distributions of such tax-free earnings and profits.
HoldCo becomes a corporation for Massachusetts tax purposes by operation of St. 2008, c. 173 as of the close of 2008, and the shareholders must use the remaining tax-free earningsand profits attributable to them to reduce their Massachusetts tax basis in shares of the successor corporation; any tax-free earnings and profits in excess of basis must be recognized immediately as taxable dividend income. Any non-residents must adjust their Massachusetts basis in shares to account for the remaining tax-free earnings and profits for which they are subject to Massachusetts tax under the rules described in 830 CMR 63.30.3(3)(d)2., 4.
To effectuate this change, St. 2008, c. 173 adds the following definition to the personal income tax provisions and the corporate excise provisions:
Disregarded Entity, an entity that is disregarded as a separate entity from its owner for federal income tax purposes. Such an entity shall be similarly disregarded for purposes of 830 CMR 63.30.3; and, without limitation, all income, assets, and activities of the entity shall be considered to be those of the owner. M.G.L. c. 62, § 1(q), and M.G.L. c. 63, § 30.2.
In the case of a disregarded entity, the owner includes all the income, losses and attributes of the disregarded entity in its own tax calculations. For personal income tax and corporate excise purposes, the disregarded entity has no separate identity, although in most other respects the entity continues to be regarded as a separate legal entity, with its own obligations and privileges.
With respect to the treatment of a qualified REIT subsidiary, see 830 CMR 63.30.3(3)(a).
St. 2008, c. 173, § 96 effective on July 3, 2008 grants broad authority to the Commissioner to "determine reasonable transition rules for entities, including but not limited to corporate trusts and qualified subchapter S subsidiaries, and the successors, direct or indirect owners, partners or beneficiaries of those entities, whose tax classification shall be altered by St. 2008, c. 173. These transition rules may include provisions for nonrecognition of gain or loss in the event of a conversion of an entity's Massachusetts tax status resulting from St. 2008, c. 173, with corresponding adjustments to basis or other tax attributes if and as determined by the commissioner to be appropriate." In addition, M.G.L. c. 63, § 31M, added by St. 2008, c. 173 and quoted in 830 CMR 63.30.3(3)(a), provides for a basis adjustment to shares in a corporation that was formerly subject to tax as a corporate trust to account for tax-free earnings and profits.
Except as otherwise indicated, the Massachusetts tax consequences described in 830 CMR 63.30.3 applies both in the case of reclassifications of entities that occur by operation of St. 2008, c. 173 and in the case of reclassifications that follow from transactions or deemed transactions initiated by entities or successors, or their members, on or after July 3, 2008 and prior to the time at which a change in classification would otherwise occur by operation of St. 2008, c. 173. Such consequences would include, among other things, the recognition of gain to an entity that has been treated as a corporation for Massachusetts tax purposes and is deemed to liquidate, whether by reason of its change of classification pursuant to St. 2008, c. 173 or, for example, in a transaction or transactions that result in a conversion into a different form of entity or in the termination of status as a corporation for Massachusetts tax purposes. To the extent rules or principles are not otherwise described in 830 CMR 63.30.3, the Massachusetts tax consequences of reclassifications pursuant to St. 2008, c. 173 and of transactions and deemed transactions that result in a change in the entity classification will generally be determined by applying federal rules and principles, including those related to income recognition and basis adjustments, as adjusted so as to be consistent with the rules and principles described in 830 CMR 63.30.3 and as otherwise needed to take account of Massachusetts statutory and other modifications.
Entities and their successors and members that are the subject of, or involved in, an entity reclassification in Massachusetts, whether pursuant to St. 2008, c. 173 or as a result of a transaction or deemed transaction occurring on or after July 3, 2008 and prior to the time at which a change in classification would otherwise occur by operation of St. 2008, c. 173, may need to determine the tax basis in their assets or their shares or other ownership interests, and make certain other calculations and adjustments, in a manner that differs from their federal tax reporting in determining their Massachusetts income tax and corporate excise liabilities. As noted, entities that were formerly taxable in Massachusetts as corporations and, as a result of St. 2008, c. 173, will be taxable under a different classification will be deemed to liquidate, which will generally require recognition of gain or loss to the corporation for Massachusetts tax purposes. Such gain or loss must be reported on the closing return of the liquidating corporation. In some cases, there could be other tax consequences to the liquidating entity, such as recapture of a previously-taken benefit for which the taxpayer is ineligible under its new classification. For example, an entity that was classified as a manufacturing corporation and was eligible to receive the Investment Tax Credit under M.G.L. c. 63, § 31A, will be ineligible to receive that credit if its new classification is as a partnership. Thus, the liquidating entity will be subject to the recapture provisions described in M.G.L. c. 63, § 31A; any recapture must be reported on the closing return of the liquidating corporation.
The specific transition rules described in 830 CMR 63.30.3(4)(a)1. through 7. applies to entities whose Massachusetts entity classification changes pursuant to St. 2008, c. 173 as of the commencement of an entity's first taxable beginning on or after January 1, 2009. 830 CMR 63.30.3 will also apply to entities that change their form or classification on or after July 3, 2008 and prior to the time at which a change in classification would otherwise occur by operation of St. 2008, c. 173, and in that context they should be applied in a manner that treats the change in entity classification, and the resulting consequences, as taking effect at the pertinent time of reclassification (rather than necessarily as of the first taxable year beginning on or after January 1, 2009 as in the statutory reclassifications described in 830 CMR 63.30.3(4)(a)1 through 7. Note, however, the special rules regarding accounting for and reporting of tax-free earnings and profits of former corporate trusts, as described in 830 CMR 63.30.3(3)(d)1. The rules regarding tax-free earnings and profits of former corporate trusts apply to any such entity that was or would have been treated as a corporate trust at any time on or after July 3, 2008, to successors of such corporate trusts regardless of the form of organization of the successor, and to the owners or members of such corporate trusts or their successor entities, and regardless of whether the trust terminates by an affirmative action of the entity or by operation of St. 2008, c. 173.
The shareholders of an entity that formerly was treated as a corporate trust under M.G.L. c. 62, § 8, but which has been a corporation for federal tax purposes will often have a Massachusetts basis in their shares that differs, possibly significantly, from their federal basis. This may be particularly the case where the corporate trust was an S corporation for federal tax purposes. Where the required reduction in basis to reflect tax-free earnings and profits would exceed the available Massachusetts tax basis, the excess must be taken into account as dividend income under the rules described in 830 CMR 63.30.3(3)(d).
Distributions from S Corporation Successor to Corporate Trust. Distributions to shareholders of an S corporation that is a successor to a corporate trust shall be deemed to be paid first from previously undistributed tax-free earnings and profits of the corporate trust, to the extent that they have not yet been taxed to the shareholders, and thus shall be treated as taxable dividend income to the shareholders. Any further distributions shall be deemed to be first from any accumulated S corporation income attributable to an S corporation that was a predecessor to a QSUB owned by the corporate trust, where such S corporation income had been previously taxed under M.G.L. c. 62 to the predecessor S corporation shareholders, and then from previously undistributed earnings and profits of the corporate trust, until all such earnings and profits of the corporate trust are exhausted. See DOR Directive 04-2 (February 13, 2004). The rules in Directive 04-2 are modified by 830 CMR 63.30.3. 830 CMR 63.30.3 requires that any distributions be treated as first paid out of any tax-free earnings and profits of the corporate trust that has not yet been taxed to the shareholders, and provides that such distributions shall be taxed to the shareholders as taxable dividend income.
Distributions of previously undistributed earnings and profits of the corporate trust will not reduce the shareholders' Massachusetts tax basis in their S corporation shares. Distributions other than those out of earnings and profits of the corporate trust will be governed by existing S corporation rules.
For special rules that apply to QSUBs of former corporate trust parents, see 830 CMR 63.30.3(4)(a)7.
Treatment of Capital Loss Carryover Attributable to the Corporate Trust. To the extent an entity taxable as a corporate trust under the former M.G.L. c. 62, § 8, but taxable as a federal S corporation, has any ongoing capital loss carryforward, such amounts are not carried forward to its successor entity. However, a shareholder in such former corporate trust at the time of its conversion into an S corporation for Massachusetts tax purposes may take a proportionate share of such capital loss carryforward for Massachusetts tax purposes for the tax year beginning on or after January 1, 2009, provided that the shareholder held such proportionate interest in the corporate trust's shares on July 3, 2008.
As to the shareholders of the corporation that will be now treated as a partnership, ordinarily the application of federal rules to the deemed liquidation of the corporation in these circumstances would also require the recognition of gain or loss to shareholders, and a resulting change in the basis of the former corporation's assets that the shareholders are deemed to contribute to the partnership. However, to provide as much consistency in asset basis as possible between Massachusetts and federal law, the Department has determined that in these circumstances the shareholders will not recognize gain or loss upon the deemed liquidation of the corporation, and the shareholders will take a Massachusetts tax basis in the assets received upon the deemed liquidation equal to the corporation's Massachusetts tax basis in such assets immediately prior to its deemed liquidation. The shareholders will then be deemed to transfer those assets to the partnership under the federal rules applicable to such a transaction, see, e.g., IRC §§ 721-723, with the partnership generally taking the same basis in the assets that the transferor shareholders had and with the shareholders now having a basis in their interests in the successor partnership consistent with their basis in the assets deemed to be transferred. The holding period for partners in their partnership interests will be a continuation of the existing holding period in their shares of the former corporation, and will not recommence with the conversion. The holding period for the partnership in the assets of the former corporation will be deemed to include the corporation's former holding period in its assets.
Distributions to partners shall be deemed to be paid first from previously undistributed earnings and profits of the corporate trust (both tax-free earnings and profits that were taxed to the partners upon the conversion to the partnership, and earnings and profits that were taxed to the corporate trust), until all such earnings and profits are exhausted; such distributions will not reduce the partners' Massachusetts tax basis in their partnership interests. After exhaustion of earnings and profits attributable to the former corporate trust, subsequent distributions of the successor partnership will be governed by ordinary partnership rules.
As to the corporation's shareholder, ordinarily the application of federal rules to the deemed liquidation of the corporation in these circumstances would also require the recognition of gain or loss to the shareholder, and a resulting change in the basis of the former corporation's assets in the hands of such shareholder. However, to provide as much consistency in asset basis as possible between Massachusetts and federal law, the Department has determined that in these circumstances the shareholder will not recognize gain or loss upon the deemed liquidation of the corporation, and the shareholder/owner will take a Massachusetts tax basis in the assets received upon the deemed liquidation equal to the corporation's Massachusetts tax basis in such assets immediately prior to its deemed liquidation. The holding period for the shareholder in the assets will be deemed to include the corporation's former holding period in its assets.
Before the enactment of St. 2008, c. 173, corporations were not allowed to take into account the dividends on shares of a corporate trust in calculating their dividends received deduction under M.G.L. c. 63, § 38(a)(1). With the elimination of separate tax provisions for corporate trusts, this clause becomes obsolete. However, St. 2008, c. 173 addresses the issue of dividends received by business corporations with respect to their ownership of shares of corporations that formerly were treated as corporate trusts under M.G.L. c. 62, § 8. The legislation provides that such dividends are not eligible for the dividends received deduction if the dividends represent tax-free earnings and profits, as defined in M.G.L. c. 62, § 8, as in effect on December 31, 2008. St. 2008, c. 173, § 57, repealing M.G.L. c. 63, § 38(a)(1)(i). See also St. 2008, c. 173, §§ 96, 102 (providing for transition rules effective July 3, 2008 to ensure the taxation of tax-free earnings and profits of corporate trusts under M.G.L. c. 62 and M.G.L. c. 63).
All dividends received by a corporation on or after July 3, 2008 from a corporate successor to an entity that was in existence as a corporate trust at any time on or after July 3, 2008 shall first be deemed to have been paid out of tax-free earning and profits of the paying entity, to the extent there are remaining tax-free earnings and profits that have not been subject to Massachusetts taxation, and to that extent shall be fully taxable as dividend income without regard to the dividends received deduction. A corporation that was previously a corporate trust, or a successor thereto, that is paying such dividends must notify the recipient of the extent to which the dividends are deemed to represent such tax-free earnings and profits. To the extent of such taxable dividends out of tax-free earnings and profits of a predecessor corporate trust, in a case where the recipient corporation's basis in the shares of the former corporate trust had been reduced (pursuant to M.G.L. c. 63, § 31M, added by St. 2008, c. 173, § 46) on account of the tax-free earnings and profits that are being distributed, the recipient corporation may readjust its basis in the shares of the payor upwards in the amount of tax-free earnings and profits distributed and taken into income.
The Department will issue regulations regarding the combined reporting obligations of certain corporations, as set forth in St. 2008, c. 173. See St. 2008, c. 173, § 48, adopting M.G.L. c. 63, § 32B. 830 CMR 63.30.3 will, among other things, set forth the rules for the elimination of certain dividends among members of the combined reporting group, as a general matter, and for an exception to such elimination in the case of dividends from a former corporate trust.
All dividends received on or after July 3, 2008 from an entity (whether classified as a corporation or otherwise) that was subject to treatment as a corporate trust at any time on or after July 3, 2008, or a successor thereto, are taxable to a recipient who is taxable under M.G.L. c. 62 unless they are derived from earnings and profits previously taxed to the corporate trust under M.G.L. c. 62, § 8 and the corporate trust properly filed returns and paid all taxes due. See St. 2008, c. 173, § 96. With respect to dividends paid out of tax-free earnings and profits accumulated by a corporate trust, Massachusetts resident taxpayers will be allowed a credit for income taxes paid to other jurisdictions on such dividends and nonresidents are taxable as described and to the extent provided in 830 CMR 63.30.3(3)(d)2. See M.G.L. c. 62, § 6(a).
With respect to the treatment of capital losses attributable to corporate trusts that become S corporations after July 3, 2008, see 830 CMR 63.30.3(4)(a)2.a., last paragraph.
The corporate estimated tax payment rules are found at 830 CMR 63B.2.2. Note that as a general rule, these tax payments are not of equal amount, and are front-weighted. This contrasts with the estimated tax filing rules under M.G.L. c. 62B, § 13 through 15, applicable to individuals, where the general rule requires four equal payments of the estimated tax due.
Pursuant to St. 2008, c. 173, S corporations and their QSUBs are no longer subject to separate taxation, and are evaluated together for income and non-income measure purposes. See M.G.L. c. 63, § 32D, as amended by St. 2008, c. 173, §§ 49 through 53. To ensure proper calculation of estimated tax payments required under M.G.L. c. 63B, to the extent the estimated payment of the entity is based on the prior year's tax due, according to the rules at 830 CMR 63B.2.2, the amount must be based on the sum of the tax due for the S corporation and its QSUBs for the preceding taxable year, as that term is defined at 830 CMR 63B.2.2(2). In many cases, estimated tax payments after the first of four required estimates must be based on the entity's actual circumstances during the current taxable year, according to 830 CMR 63B.2.2(8)(b)1.
In addition to the preceding general rule, an S corporation that was formerly subject to taxation as either a corporate trust, under M.G.L. c. 62, § 8, or as a financial institution, under M.G.L. c. 63, §§ 1 through 7, must recalculate its tax due for the preceding taxable year as though the entity had been subject to taxation under M.G.L. c. 63, § 32D or 2B including the income of its QSUBs, to the extent the first payment due is based on the income tax liability of the preceding taxable year.
830 CMR, § 63.30.3