Personal Holding Company Overview & Section 544 Attribution Rules

  • Historically, corporate tax rates have been lower than individual tax rates- sometimes much lower
  • Corporations will sometimes intentionally not pay dividends in order to avoid paying the second layer of tax
  • Personal holding company rules are designed to force a corporation to pay dividends under certain specific circumstances, or pay a penalty… the PHC penalty
  • The PHC penalty is self-assessed… you calculate it yourself and include it in your 1120 form

A Common Personal Holding Company Scenario

  • A private corporation sells the business for cash
  • The seller corporation invests cash proceeds
  • This generates dividends, interest income, etc.

Personal Holding Company Section 544 Attribution Rules

  • 1stRule: Do 5 or fewer owners during the last 6 months of the taxable year own more than 50% of the value?(you are deemed to own what your brother or sister own)
    • If Yes, go to 2nd rule
    • In No, stop
  • 2ndRule: Does 60% or more of the corporation’s adjusted ordinary gross income = PHC income?
    • If Yes, go to 3rd rule
    • If No, stop
  • 3rd Rule: Calculate undistributed PHC income and multiply it by 15% to get PHC Tax
  • PHC Income =
    • Interest income
    • Dividends
    • Royalties
    • Annuities
    • Rents(there are exceptions
    • Does not include capital gains

Personal Holding Company Penalties

  • PHC penalty is calculated at the highest individual rate- which today is 15% since that’s the dividend rate
  • The penalty is roughly equivalent to the tax the shareholder would have paid had the corporation paid a dividend
  • Note that shareholders do not get stock basis if the dividend had been paid and the shareholders had reinvested the dividend

Alternatives to the PHC Penalty

  • Actually pay a dividend before the year ends
  • Pay a ‘constant dividend’ (Section 565)
  • Declare a deficiency dividend following a determination(Section 547)
  • Consider liquidating the corporation given the very favorable capital gains rates today, but don’t overlook the Section 311(b) gain at the corporate level

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