Tax consolidation, or combined reporting, is a
regime adopted in the tax or revenue legislation of a number of
countries which treats a group of wholly owned or
majority-owned companies and other entities (such as
trusts and partnerships) as a single entity for tax purposes. This
generally means that the head entity of the group is responsible
for all or most of the group's tax obligations (such as paying tax
and lodging tax returns).
Consolidation is usually an all-or-nothing event: once the
decision to consolidate has been made, companies are irrevocably
bound. Only by having less than a 100% interest in a subsidiary can
that subsidiary be left out of the consolidation.
The aim of a tax consolidation regime is to reduce
administrative costs for government revenue departments and reduce
compliance costs for corporate taxpayers.
- For companies, consolidating can help understate profits by
having losses in one group company reduce profits for another.
- Assets can be transferred between group companies without
triggering a tax on gain for the company receiving assets,
dividends can be paid between group companies without incurring tax
liabilities, and tax attributes of one group company such as
imputation credits can be used by other companies in the
group.
- In some jurisdictions there may be other benefits, such as the
ability to look through the acquisition of shares of acquired
companies to depreciate the underlying assets.
Countries which
have adopted a tax consolidation regime include the United States,
France, Australia and New Zealand. Countries which do not permit
tax consolidation often have rules which provide some of the
benefits. For example, the United Kingdom has a
system of group relief, which permits profits of one group company
to be reduced by losses of another group company.
- Consolidation regimes can include onerous rules and
regulations. There are typically complex rules to deal with the
acquisition of companies with tax losses or other tax
attributes.
- Both the United States and Australia have rules which restrict
the use of such losses in the wider group. In Australia, fixed
trusts and 100% partnerships can be members of a consolidated
group, but the head company must be a company and cannot be a trust
or partnership.United States federal income tax rules permit
commonly controlled corporations to file a consolidated
return.
- The income tax and credits of the consolidated group are
computed as if the group were a single taxpayer. Intercorporate
dividends are eliminated. Once a group has elected to file a
consolidated return, all members joining the group must participate
in the filing.
- The common parent corporation files returns, and is entitled to
make all elections related to tax matters. The common parent acts
as agent for the members, and it and the members remain jointly and
severally liable for all federal income taxes.
- Many U.S. states permit or require consolidated returns for
corporations filing federal consolidated returns.
Requirements
for filing
- Only entities organized in the United States and treated as
corporations may file a consolidated Federal income tax return.[
The return is filed by a “common parent” and only those
subsidiaries in which the common parent owns 80% or more of the
vote AND value.
Consolidated
taxable income
- Taxable income of each member is computed as if no consolidated
return were filed, with the exception of certain items computed on
a consolidated basis.Then adjustments are made for certain
transactions between group members.
Basis and
related items
- Each member of a group must recognize gain or loss on
disposition of its shares of other members. Such gain or loss is
affected by the member's basis in such shares.
Filing
periods
- All members of the group must use the same tax year as the
common parent. This may be adopted or changed by the common parent.
If one group acquires another group, the acquiring common parent's
tax year must be adopted by all acquired subsidiaries then meeting
the 80% vote and value test
A participation
exemption on dividends applies where the recipient owns at least 5%
of the shares of the distributing entity for at least 24 months. If
the participation exemption applies, the dividends are 95% tax
exempt, resulting in a maximum effective rate of 1.9% (5% x
38%).
Participation exemption is a general term relating to an
exemption from taxation for a shareholder in a company on dividends
received, and potential capital gains arising on the sale of
shares.