Push-down accounting and alternatives: risks and opportunities in corporate consolidations

Tax Executive, The, Sept-Oct, 1998 by Arthur R. Rosen, Alysse Grossman

In most cases an allowable deduction of a taxpayer

will be applicable to only the business income

arising from a particular trade or business or to a

particular item of nonbusiness income. In some

cases, an allowable deduction may be applicable

to the business incomes of more than one trade or

business and/or to several items of nonbusiness

income. In such cases, the deduction shall be prorated

among those trades or businesses and those

items of nonbusiness income in a manner which

fairly distributes the deduction among the classes

of income to which it is applicable.

Thus, a tax agency may assert that Holding's interest expense is a nonbusiness expense of Holding (or of the group) and, consequently, nondeductible against Target's business income.

It will be important to determine whether the business/nonbusiness determination should be decided by looking at the activities of Holding by itself or at the combined activities of the entire Holding group. If the corporations are engaged in a unitary business, the interest expense is arguably a business expense from the unitary business. Thus, if Holding and Target are deemed to be involved in a unitary business, they could contend that the interest expense should be a business expense when looking at the unitary business as a whole.

If the corporations are not deemed to be involved in the conduct of a unitary business, the interest expense will more likely be considered a nonbusiness expense because only Holding's business will be used to make such a determination. The tax agency's argument might be that the actual day-to-day business operations of the group did not change after Holding acquired the debt and that, therefore, it would be inappropriate to allow the interest expense deduction. In one case, the Kansas Court of Appeals determined that a bank subsidiary could not deduct interest paid by its parent on indebtedness incurred on the purchase of the bank subsidiary's stock because the parent corporation had been formed for the benefit of the family that owned all of its shares (the holding company was formed for and utilized in the family's attempt to obtain all of the bank's shares). First National Bank v. Kansas Dep't of Revenue, 779 P. 2d 457 (Kan. Ct. App. 1989).

In response, the taxpayer's argument might be that the acquisition of the debt (1) did affect operations by requiring more attention to cash flow, margins, and efficiencies (the great amount of publicity regarding corporate restructurings and resizings following LBOs is an indication of this) and (2) every business must pay its capital investors (including debt capital) to maintain its business and the amount of debt capital naturally changes over time.

Under certain circumstances, Mississippi permits affiliated corporations to file consolidated or combined returns and authorizes the Commissioner to require such returns. Miss. Code Ann. [sections] 27-7-37(2)(a) (1996). See also Miss. Reg. 807. Furthermore, Mississippi's statute specifies that "[i]f a corporation...enters into any transaction that is for the benefit of its shareholders or for the benefit of an affiliated corporation without an equal mutual business benefit of the corporation, then, the transaction will be adjusted or eliminated to arrive at taxable income to this state." Miss. Code Ann. [sections] 27-7-9(j)(6). Mississippi's regulations continue to provide that "[i]nterest expense incurred for the purchase of its own stock...or for leveraged buyouts are not for the benefit of the corporation and may not be taken as an expense of the corporation." Miss. Reg. 808.