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Each affiliated corporation included in a consolidated return is entitled to the same benefits under the exemption provisions of the Liberty bond acts to which it would be entitled if not affiliated (T. B. R. 7). A corporation turned over a branch of its business to a new company not incorporated, the new company simply using the assets without paying for them; it was held that the income of both should be reported as income of the corporation in one return (O. D. 467). Corporations affiliated within the meaning of the law and filing consolidated returns are not permitted to file consolidated returns of information at the source (O. D. 469). Attention is called to the rule applicable to consolidations appearing in Article 633, now 635); this rule modifies the information called for on old Form 1120 (Mim. 2930).

Intercompany profits prior to the period of consolidated returns need not be eliminated (L. O. 1108; S. M. 1530).

The retroactive provision in the 1921 act, permitting consolidated returns for 1917, requires that substantially all of the stock be owned by the parent company. If only 51% was owned a part of the year, the requirement of the law was not met even though a substantial amount was in the possession of the parent company for the balance of the year. But where a subsidiary was controlled through the ownership of all the stock, directly or through another subsidiary, affiliation was present (A. R. R. 1232). Under the 1917 act a corporation could not be affiliated with a foreign partnership but income so received was taxable to the corporation (O. D. 230). The 1917 provision also required that there be a "closely affiliated" business; this refers to character of output, not the method of conducting business (A. R. R. 6603). A partnership and corporation were not affiliated because one individual owned 99% of the corporate stock and had an 80% interest in the partnership (S. M. 2275).

A consolidation was disallowed to a corporation that rented land, its only asset, from a subsidiary whose stock was owned by them in excess of 99%, because the stock was held in an irrevocable trust which retained the voting power (A. R. R. 641). If the Bureau was unable to require a consolidation it was unable to grant one (T. B. M. 32). Where the wife's rights of ownership are recognized, husband's and wife's corporate holdings should not be taken as one (A. R. R. 942; I. T. 2029). One corporation owned the controlling interest in two other corporations but the directing officer (vice-president and general manager) in each subsidiary was of the minority group of stockholders and had no

interest in any of the other corporations. The corporations could not file a consolidated return as affiliated corporations inasmuch as the parent company had not, in effect, exercised any control over the subsidiaries, it being presumed that the minority officer in each case was serving primarily his own interest (A. R. R. 378). A partnership owning all the stock of a corporation cannot file a consolidated return and thus reduce its income by the losses of the corporation (O. D. 795). A corporation in the hands of a receiver could not be included in an affiliation (A. R. R. 818). Where 6% and 25% of the stock of two corporations was owned by minority stockholders, a consolidated return of affiliated corporations was not permitted, as substantially all the stock was not owned and controlled by the same interests (T. B. R. 52). Two stockholders owned the entire stock of two corporations, but their respective shares in both corporations were not alike; hence a consolidated return was not permitted (T. B. M. 32; S. M. 1960, 2001; I. T. 2019, 2029, 2031). A stock control of 69.04% in the year 1918, without intercompany operating transactions or artificial intercorporate relationship, was insufficient to authorize a consolidated return for that year (A. R. R. 448). Intercompany transactions are necessary if a consolidated return is to be filed (I. T. 2033). Without the necessary stock ownership, close intercompany commercial and financial relationship did not entitle certain businesses to file a consolidated return (A. R. R. 123). Intercompany sales alone do not constitute conclusive evidence of "closely related businesses" (A. R. M. 43). More than 50% of the sales of one corporation were made to another corporation and all of its capital stock was owned by the second corporation. Inasmuch as the sales were made at current market price and no other intercompany relationships existed, separate returns were required (A. R. R. 624). Two corporations were not allowed to consolidate unless there was a sufficient stock ownership, even if one controlled and operated the property of the other and paid the taxes for both companies (O. D. 734), or had leased or otherwise was in control of the stock (I. T. 2084, 2032). The shifting of income or profits from one corporation to another is not the determining factor under the Revenue Act of 1918 in deciding whether or not the returns of such corporations should be consolidated; the test is that substantially all of the stock is mutually owned or controlled (A. R. R. 2958, 8282). Something more than an agreement between corporations is required (S. M. 2542) and "substantially all" must be more than 80% (I. T. 2083). Ownership was not changed through the endorsement and pledging of stock certificates (S. M. 2357).

The filing of a consolidated return for 1922 by two affiliated corporations constituted an exercise of the election permitted by Section 240 (a) and separate amended returns for 1922 cannot be filed (I. T. 1777). But when a corporation secured ownership and control of another corporation for a negligible part of 1922 and separate returns were filed, this did not constitute an election denying the right to file a consolidated return for 1923 (I. T. 1783).

Legal ownership or control of at least 95% of the stock, as indicated above, has been objected to correctly by the Board of Tax Appeals, although but few of its decisions have been approved by the Commissioner. The Board states that actual, not legal, control must be present. Thus where stock is held by the members of a family or employees (1 B. T. A. 581, 624, 666; 2 B. T. A. 58, 100, 229, 341, 821, 841; 3 B. T. A. 1336) affiliation has been held to exist. The requirement of "substantially all" is not met by a 61.57% ownership without a showing of control of the other 38% (2 B. T. A. 229) nor by an ownership of 65% (2 B. T. A. 346), and 66% (2 B. T. A. 520; 4 B. T. A. 183). No affiliation was present when only potential control existed (1 B. T. A. 1067, 1218) but where an employee held two-thirds of the stock of a subsidiary and must surrender his holdings without compensation should he resign, affiliation was permitted (2 B. T. A. 603). Somewhat varying proportions of stock have been permitted where officered by the same individuals or where otherwise accompanied by the operation of the two or more corporations as a "commercial and economic unity" (1 B. T. A. 616, 694, 1004, 1058; 2 B. T. A. 166, 743). However, where the stock is held in somewhat different proportions and no intercompany transactions exist, no affiliation can be said to exist although the officers may be the same (2 B. T. A. 183). The Board of Tax Appeals has stated:

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.... The object sought to be accomplished by Congress was to tax as a business unit what really was a business unit and to prevent the component parts thereof from evading taxation by means of intercompany transactions. . . . We can find no reason for holding that the 'control' contemplated by the statute means only legal control . . . . [or] that Congress intended to use the word in other than its ordinary and accepted sense. . . The control, however, must be shown to be genuine. .. Potential control of stock is not sufficient" (1 B. T. A. 624). An agreement of the owner of a 35% interest to sell, if at all, to the majority stockholder, has no necessary bearing

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on control (2 B. T. A. 346). Where full control is present, percentages of stockholdings are of little weight (2 B. T. A. 967, 986, 1164; 3 B. T. A. 29; 4 B. T. A. 923, 940).

Sec. 240 (d) does not relate to the computation of a tax on consolidated incomes of organizations not corporations, but authorizes the Commissioner to consolidate accounts and redistribute the income (S. M. 2396; I. T. 2151).

Consolidated invested capital should include intercompany profits on inventories on which a tax has already been assessed; the profits for the ensuing year should therefore be reduced (S. M. 3384). This ruling recognizes the well-established accounting principle that intercompany profits at the date of consolidation should be permitted to stand. No loss results to a holding company through the purchase of the assets of a subsidiary at their value on the subsidiary's books (1 B. T. A. 901).

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REVIEW OF RETURNS-CLAIMS-PENALTIES

Audit of returns by collectors. Audit by Income Tax Unit. Hearings before the Treasury Department and the Board of Tax Appeals. Statute of Limitations relating to additional assessments and refunds. Waivers. Extending time of payment. Claims for refund. Non-payment of taxes. Publicity of tax information. Penalties.

RETURNS of individuals and corporations are subjected to a preliminary examination by the collector and if found incorrect, an additional tax is immediately prorated to paid and unpaid instalments, no penalty being attached unless the deficiency arises from fraud, negligence or "intentional disregard." Interest, however, at 6% per annum, may be charged. If the result is in favor of the taxpayer, the amount is credited to subsequent instalments, or if in excess thereof, the excess is refunded to the taxpayer.

Returns on Form 1040-A1 remain in the office of the collector and are examined in greater detail at a later date, in most offices within a year or two after they are filed. If exceptions are noted by the examiner the taxpayer is asked to confer with the examiner and to bring such data with him as were used in the preparation of the return. If the taxpayer is not satisfied with the findings of the examiner, he may appeal his case to the Income Tax Unit in Washington, as in the case of larger returns (Sec. 271; Art. 1211).

AUDIT BY INCOME TAX UNIT

After their cursory inspection at collectors' offices, Forms 1040 and 1120 are turned over to revenue agents from the nearest office of internal revenue agents in charge or super1 See page 21.

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