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Subchapter S reform at hand?

Long-awaited relief for S corporations may finally be on the legislative horizon. At the center of reform efforts are proposals developed by the American Institute of CPAs S corporation taxation committee in cooperation with the American Bar Association section on taxation and the U.S. Chamber of Commerce.

The AICPA package recommended 26 separate changes affecting S corporations. A number of these were contained in the Tax Simplification Act of 1993 (HR 13), introduced earlier, this year by House Ways and Means Committee chairman Dan Rostenkowski (D-Ill.).

The Subchapter S Reform Act of 1993, however, is thought to have a better chance of moving through Congress. Senators David Pryor (D-Ark.) and John Danforth (R-Mo.) agreed to cosponsor the bipartisan bill, which draws on the Institute's proposals (the legislation's final details were being worked out as the Joural went to press).

Samuel P. Starr, chairman of the AICPA S corporation tax committee and a partner of Coopers & Lybrand, Washington, D.C., was guardedly optimistic about the Pryor/Danforth bill, which he termed a compromise. "It won't be everything we asked for," Starr said, "but the legislation will give our S corporation clients more flexibility to attract venture capital and carry out financing operations, and it will help with corporate structuring and with estate planning."

Added Starr, "The bottom line is the bill, if enacted, really will be an improvement over existing subchapter S law."

A better way to do business. In recent testimony before the House Ways and Means Subcommittee on Revenue Measures, Gerald W. Padwe, AICPA vice-president--taxation, reported that over 1.5 million small businesses, representing 42% of corporate tax return filers, were S corporations.

"We believe subchapter S should be amended to better reflect the way small business does business in the 1990s," said Padwe. "The financial environment today is far more complex, and 1950s' legislative restraints are handicapping small business." The Subchapter S Act was first enacted in 1958 to help remove tax considerations from small business owners' decisions to incorporate.

One goal of the Institute's recommendations is to enable owners of S corporations to plan more easily for the succession of their businesses to younger generations of employees. Another is to place S corporations and their owners on a par with other small business forms.

In part, the Institute's recommendations called for

* Allowing S corporations to incorporate distinct portions of their businesses separately to limit liability exposure.

* Reforming S corporation fringe benefit rules to treat S shareholders as owners f regular corporations. For example, the Institute called for the repeal of restrictions on qualified plan loans made to S shareholders.

* Expanding the capital formation techniques available to S corporations. This could be accomplished by increasing the 35-shareholder limit to 50, permitting certain tax-exempt organizations to be eligible shareholders, allowing nonresident alien shareholders to own S stock and permitting S corporations to issue preferred stock and to own more than 80% of a C corporation's stock.

Moreover, the Institute recommended expanding "safe-harborstraight debt" provisions to allow, S corporations to issue convertible debt and to permit ineligible shareholders to hold such debt.

* Preserving family-owned businesses. Trusts permitted to own S stock should be expanded to include those with multiple-income beneficiaries. Also, all members of a single family who own an S corporation's stock should count as a single shareholder.

* Removing undesirable tax traps that cause small business owners to shy away from using the S corporation form or, cause unnecessary tax planning to avoid jeopardizing the S election.
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Author:Miller, Stephen H.
Publication:Journal of Accountancy
Date:Sep 1, 1993
Words:579
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