Could a parent reduce its former Texas taxable-capital basis after liquidating a subsidiary whose charter remained active?

Plain-English summary

The parent could not write off its taxable-capital investment while the subsidiary's charter remained active.

Texas required separate-entity reporting and did not allow consolidated franchise-tax reports. Section 171.109(h) required the parent to use the cost method for its subsidiary investment.

Although the parent had liquidated the loss-producing subsidiary for $3,000, Comptroller records showed the subsidiary's charter was still active. The taxable-capital component therefore continued to report the investment at cost, with no recognition of the liquidation and no basis adjustment.

Earned-surplus basis followed the historical federal-law reference. Subsidiary losses and the liquidation could affect the parent's basis only to the extent federal law allowed the losses and recognized the liquidation on a separate-company basis.

What this means for you

Parent corporations reviewing historical liquidations

An economic liquidation did not produce a taxable-capital write-off when the subsidiary had not dissolved its corporate charter.

Tax professionals

Keep the cost-method taxable-capital rule separate from federal-law effects on earned-surplus basis.

Common questions

Q: Was the parent's taxable-capital basis reduced?
A: No.

Q: Why not?
A: The subsidiary's corporate charter remained active.

Q: Could the liquidation affect earned-surplus basis?
A: Only to the extent recognized under the historical federal law on a separate-company basis.

Citations and references

• Texas Tax Code Secs. 171.109(h) and 171.001(b)(5)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9704424L

Original ruling text

April 1, 1997

RE: ***
Texas Taxpayer Number: *****

Dear ***:

Thank you for your letter concerning the losses incurred by your subsidiary
corporation.

You stated in your letter that the subsidiary has recorded losses for the last
ten (10) years, In 1996, you liquidated the subsidiary for $3,000. Per our
phone conversation this morning, your specific question deals with the
determination of the parent corporation's basis for recognizing the loss
associated with the liquidation of the subsidiary.

As you know, the Texas franchise tax is based on a separate entity concept, no
consolidated reporting is allowed.

Texas Tax Code (TTC) Section 171.109(h) requires that a parent corporation use
the cost method of accounting for its investment in a subsidiary corporation.
In order to "write-off" the value of the investment, the subsidiary must have
dissolved its corporate charter. In your case, ***, our records show
that the subsidiary has an active charter, it has not been dissolved.
Therefore, for the taxable capital component of the franchise tax on the
parent's 1997 franchise tax report, the investment must be reported at cost.
The liquidation will not be recognized and there will be no adjustment to the
basis of the asset.

The basis used for the earned surplus component will be based on the Internal
Revenue Code (IRC) in effect for the federal tax year beginning on or after
January 1, 1994 and before January 1, 1995. [TTC Sec. 171.001(b)(5)]
Therefore, the losses recorded by the subsidiary corporation and the
liquidation will be allowed to effect the parent's basis used for reporting the
earned surplus component of the franchise tax to the extent the losses are
allowed and the liquidation is recognized under the IRC on a separate company
basis.

This response is based on current law and the facts presented. If there are
different or additional facts, the response may change.

If you have any questions about this or any other franchise tax matter, please
call me at
1-800-531-5441, extension 34612. My direct number is (512) 463-4612. You may
write me at Tax Policy Division, Comptroller of Public Accounts, Austin, Texas
78774.

Sincerely,

Janet Spies
Tax Policy Division