What counts as dissolution/liquidation (C-corp)

[ineedtaxhelp2020]

I expect my C-corp to cease operating and doing business this year. However, we have not put into place a liquidation/dissolution plan (frankly am not sure whether we will be able to get to one before we stop operating). 

I have two questions:

1. If a corporation returns investment capital back to its shareholders but does not exchange it for stock is that still considered a liquidation? 

2. If my C-corp will stop operating but does not file an official dissolution with the state of incorporation (Delaware), do I still need to file a form 966? 

IRS: "A corporation (or a farmer’s cooperative) must file Form 966 if it adopts a resolution or plan to dissolve the corporation or liquidate any of its stock."

[Rick19744]

I have the following comments:

• You should technically have a plan of liquidation drafted and then file the Form 966.
• This is just part of the expense of running a business and closing it down.
• For federal income tax purposes, a corporation does not exist after it ceases business and liquidates by paying all of its liabilities and distributing all of its assets, whether or not it continues to exist under state law.
• As you can see, there are differences between federal and state, so you need to make sure you contact your state's Secretary of State to file the appropriate forms, etc.
• When making a liquidating distribution, the corporation needs to file form 1099-DIV; copy for IRS and shareholder(s).
• Should you not file the plan of liquidation and form 966 you run the risk that any distribution(s) are just treated as a dividend.  Under the plan of liquidation, the shareholder would have the ability to subtract their basis from the distribution and then determine and gain or loss.  In the end, the result would be the same, most likely a timing difference.
• The date of liquidation is important for determining when the corporation's final income tax return is due. When liquidation occurs prior to the end of a tax year, the corporation must file a short-period tax return by the 15th day of the fourth month following the month of liquidation.
• You may want to consult with a tax professional on this matter.

[Anonymous]

here's a sample of a plan of liquidation. want something else - just type "plan of liquidation" into your browser. 

https://nysba.org/NYSBA/Downloadable%20Forms/Buying%20and%20Selling%20a%20Small%20Business/BUY016sma...

filing with the sate may be more important than filing with the IRS.  until the proper paperwork is filed, the corporation continues to exist.  Some, if not all, states have a rule that failure to file an annual report and/or pay the filing fees/franchise taxes results in automatic termination after so many years.  during this period and maybe even after due to failure to file properly. the corporation could be sued by a creditor that wasn't paid, the reason doesn't matter, such as lawsuit filed after the business was "closed" for faulty product or service or just about anything else.  that could leave the shareholders  liable.     

[ineedtaxhelp2020]

Isn't it possible for a corporation to return capital back to an investor as part of a non-dividend payment in a non-liquidation event? Or is return of capital only possible in liquidations? @Rick19744 

[Rick19744]

We are now starting to get into more complexity.

So just at a high level, a corporation maintains two accounts; retained earnings and earnings and profits (E&P).

Most small businesses have no idea about the E&P concept and certainly do not maintain this account.  There are differences between retained earnings and E&P.

To the extent that a corporation makes a cash distribution AND has E&P, the distribution will be treated as a dividend.  If there is no E&P, then the distribution will be considered a return of capital.

[ineedtaxhelp2020]

Hi @Rick19744 what happens if a company has net income but returns both the profit and original investment capital back to a shareholder? I thought the IRS documentation stated that this case would fit the definition of a non-dividend, but that any profit/amount beyond an investor's cost basis would be taxable. It appears that investment capital goes into a company's balance (cash assets) but not the E&P. 

[Rick19744]

You need to understand the concept of E&P, which is a cumulative figure and not just a one year determination.  My recommendation is to Google this concept or consult with a tax professional depending on the $$ involved.  This forum is not designed as a back and forth consultation, which is why I recommend a one on one with a tax professional.  Too many factors and issues.