| On February 17, 2009 President Barack Obama signed | | | | Corporation prior to sale. In an S Corporation the |
| the "American Recovery and Reinvestment Act of | | | | proceeds from sale are "passed through" directly to |
| 2009" ("ARRA of 2009) into law. Section 1251 of the | | | | the shareholders and taxed ONLY at their individual |
| bill temporarily reduces the recognition period for | | | | tax rates. |
| "built-in" gains tax (BIG tax) on S Corporations from 10 | | | | Since the result of converting a C Corporation to an S |
| years to 7 years for the 2009 and 2010 tax years. | | | | Corporation is a reduction in revenue for the IRS, the |
| Why is this important? | | | | IRS states that the conversion must occur prior to the |
| Historically, if you were a shareholder in an S | | | | recognition period or the proceeds from sale will be |
| Corporation that converted from a C Corporation and | | | | taxed on a prorated basis. |
| sold the company within 10 years of the date of | | | | Example: |
| conversion, you would be subject to BIG tax. For 2009 | | | | Assume a C Corporation converted to an S |
| and 2010, that 10 year "recognition period" has been | | | | Corporation less than 7 years prior to sale. A valuation |
| reduced to 7 years. So, if you sell your S Corporation | | | | of the company is needed at the date of conversion. |
| in 2009 or 2010 and it has been converted from a C | | | | All sale proceeds up to the dollar amount of the |
| Corporation at least 7 years prior, you will avoid the | | | | valuation are taxed at the BIG tax rate of 35% and |
| 35% BIG tax. Companies originally organized as S | | | | distributed to the shareholders where they are again |
| Corporations have never, and remain, not subject to | | | | taxed at the shareholders' personal rates. This |
| BIG tax. | | | | effectively recognizes the value created within the |
| A Closer Look | | | | company while it was organized as a C Corporation |
| When you sell a C Corporation the proceeds from the | | | | and taxes it accordingly (known as BIG Tax). |
| sale of the assets are owned by the corporation. | | | | The valuation at the date of conversion is then |
| They get taxed once at the corporate level (35%) and | | | | subtracted from the sale price to determine the value |
| then again upon distribution to the shareholders where | | | | created while the company was an S Corporation. |
| they are taxed at your personal rate. This effective | | | | That value is "passed through" directly to the |
| "double tax" makes it advantageous for the | | | | shareholder in accordance with S Corporation |
| shareholders of a C Corporation to convert to an S | | | | treatment. |