TX 9808739L Franchise Tax (PRIOR TO 01/01/2008) 1998-08-18

How did a QSSS and parent S corporation report separately for the former Texas franchise tax, including parent investment and dividends?

Short answer: The QSSS and parent were separate Texas taxpayers. The QSSS filed using its own income, deductions, assets, and liabilities, while Rule 3.556 computed earned surplus as if separate federal S-corporation returns existed. For taxable capital, the parent used the cost method for its QSSS investment. QSSS dividends entered everywhere receipts and were Texas receipts when the QSSS's legal domicile was Texas.

Apply this to your situation

This page answers the general question as of 1998. Ezel answers yours, under current Texas tax law, with citations.

Disclaimer: This is an official Texas Comptroller of Public Accounts letter published on the State Tax Automated Research (STAR) system. Letters on STAR can be the basis of a detrimental reliance claim only for the taxpayer to whom the letter was directly issued (see 34 Tex. Admin. Code Rules 3.1 and 3.10); documents on STAR may no longer represent current policy even if not marked superseded. This 1998 letter applies pre-2008 separate-entity, cost-method, and dividend-sourcing rules and says no specific taxable-capital QSSS rule was then planned. Texas replaced the former tax with the margin tax and current combined-reporting rules; confirm present law. Taxpayer-identifying details are redacted. This summary is informational only and is not legal or tax advice. Consult a licensed Texas tax professional about your specific situation.

About this page: The plain-English summary, reader guidance, and Q&A below were written by Ezel based on the official state tax ruling. The original ruling (linked on this page) is the authoritative source for any reliance.

Plain-English summary

The QSSS and its parent S corporation were separate Texas taxpayers, with separate income computations, cost-method investment accounting, and domicile-based dividend sourcing.

The QSSS filed using income, deductions, assets, liabilities, and other items attributable to itself. Rule 3.556 computed the QSSS's and parent's earned surplus as though each had filed a separate federal S-corporation return.

For taxable capital, Section 171.109(h) required the parent to use the cost method for its investment in the QSSS. Dividends from the QSSS entered the parent's receipts from everywhere and were Texas receipts if the QSSS's legal domicile was Texas.

The letter said the agency had no plan at that time to issue a special taxable-capital computation rule for QSSSs.

Currency note: Texas replaced the former separate-entity franchise tax with the margin tax and current combined-reporting rules effective January 1, 2008.

What this means for you

Historical QSSS groups

Federal disregarded status did not combine parent and subsidiary for the former Texas tax.

Tax professionals

Keep entity-level records, use cost method at the parent, and source dividends by the QSSS's legal domicile under the historical rule.

Common questions

Q: Did the QSSS file separately?
A: Yes.

Q: How did the parent account for its investment?
A: Cost method.

Q: When were dividends Texas receipts?
A: When the QSSS's legal domicile was Texas.

Citations and references

34 Tex. Admin. Code Sec. 3.556
Texas Tax Code Sec. 171.109(h)

Source

STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
Opinion: https://star.comptroller.texas.gov/view/9808739L

Original ruling text

August 18, 1998

Dear Mr. **:

Thank you for your letter regarding the franchise tax on a Qualified Subchapter
S subsidiary (QSSS) and its parent S corporation.

As you are aware, the QSSS and its parent corporation are treated as separate
corporations for franchise tax purposes. Therefore, the QSSS should file its
franchise tax report using the income, deductions, assets, liabilities, etc.
attributable to the QSSS.

As indicated in Rule 3.556, the earned surplus of the QSSS and parent S
corporation will be computed as though the parent S corporation and QSSS had
filed separate S corporation returns for federal income tax purposes.

For the taxable capital component, the parent S corporation must use the cost
method of accounting for its investment in the QSSS. See Section 171.109(h) of
the Texas Tax Code. Dividends paid by the QSSS to its parent will be included
in gross receipts everywhere. They will be considered Texas receipts if the
QSSS's legal domicile is in Texas.

At this time there is no plan to amend or issue any rules specifically relating
to the computation of taxable capital for a QSSS.

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

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