Final Built-In Gains Tax Regulations Released
Over two years after the original proposal was released and eight years after the built-in gains tax was enacted, the Treasury Department issued final built-in gains tax regulations.
IRC Sec. 1374 imposes a built-in gains tax on any C corporation that files an S corporation election and any S corporation that acquires the assets of a C corporation in a tax-free transaction. The tax is intended to retain a two-tier tax structure on the excess of the value of corporate assets over their basis to the corporation at the time of the S corporation election or the tax-free transaction. This corporate-level tax is imposed on gains from any disposition of property held by the corporation at the time of the S election (or acquired in the tax-free transaction) if the disposition occurs during the ten calendar years after the election (or tax-free transaction), the "recognition period." The tax is limited to the tax on the amount of the built-in gain, the amount the fair market value of an asset exceeds its basis to the corporation on the first day of the recognition period.
The regulations answer several important questions. For instance, how is inventory valued? Many IRS agents before the regulations were issued asserted on examination that inventory should be valued at retail prices. This approach maximized the amount of built-in gain on inventory. The final regulations take a much more reasonable approach, valuing inventory at the price it would command if the entire business were sold on the date of the election to a buyer who intended to carry on the business. …