Friday, August 17, 2007

WHEN DISREGARDED ENTITIES ARE NOT DISREGARDED

Under the check-the-box rules, entities owned by one person can often elect (or by default may be treated as) a disregarded entity for tax purposes. This generally means that the income and expenses of the entity are not taxable or reportable by the entity but are instead treated as being incurred directly by the owning person or member. Qualified subchapter S subsidiaries are similarly treated.

The IRS has had problems with this in the employment tax area in regard to wage withholding and FICA and FUTA taxes. In 1999, the IRS announced that these liabilities can either be met by the disregarded entity under its own name and taxpayer identification number, or by the owner under its name and taxpayer identification number. In 2005, it issued proposed regulations that would ignore the disregarded entity rules in this area, thus imposing the obligations solely on the disregarded entity.

The IRS has now issued final regulations, putting the 2005 proposed regulations into action. They will apply to wages paid on or after January 1, 2009, so they are not immediately applicable. A disregarded entity that is subject to these rules is treated as a corporation for purposes of applying the withholding tax rules.

Under these rules, an individual who is the owner of a disregarded entity treated as a sole proprietorship will not be treated as an employee, but as self-employed for purposes of the employment tax rules.

New regulations now will also treat these disregarded entities as separate entities for certain excise taxes reported on Forms 720, 730, 2290, and 11-C, as well as for excise tax refunds or payments claimed on Form 8849, and excise tax registration on Form 637. These rules are effective January 1, 2008, a year before the employment tax rules.

T.D. 9356 ; Reg. § 1.34-1 ; Reg. § 1.1361-4 ; Reg. § 301.7701-2

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