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An S Corporation is selling its assets under an Asset

Purchase Agreement. The 2 stockholders...
An S Corporation is selling its assets under an Asset Purchase Agreement. The 2 stockholders materially participate in the operation of the business. The business provides credit card processing software & processing services to other businesses. It has very little in hard assets. Its primary assets are its contracts & customers. There will be significant gain upon the sale. Are the stockholders liable for the 3.8% net investment income tax on the gain & if so, is there any way to structure the transaction to avoid it?
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Answered in 34 minutes by:
9/19/2017
Lane
Lane, JD, CFP, MBA, CRPS
Category: Tax
Satisfied Customers: 14,441
Experience: Law Degree, specialization in Tax Law and Corporate Law, CFP and MBA, Providing Financial & Tax advice since 1986
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On items that are considered capital gain, IF each individual shareholder is above the threshold for NIIT there will be NIIT.

...

Any items that are taxed as ordinary income will not have NOT applied. But, likely, capital gains with the NIIT on top is still a lower rate than ordinary income.

...

MAGI threshold levels for NIIT:

...

Married filing jointly

$250,000

Married filing separately

$125,000

Single

$200,000

Head of household (with qualifying person)

$200,000

Qualifying widow(er) with dependent child

$250,000

...

And the capital gain IS a part of the MAGI here.

...

Non-Stock ("asset") Sales

Value placed on Tangible Personal Property (trade fixtures, furniture, equipment):

  • Seller: If held more than one year, the gains in excess of depreciation are long-term capital gain; otherwise ordinary income
  • Buyer: Establishes basis, depreciate per IRS schedules

Value placed on Leasehold Improvements:

  • Seller: If held more than one year, the gains in excess of depreciation are long-term capital gain; otherwise ordinary income
  • Buyer: Establishes basis, depreciate per IRS schedules

Value placed on Premise Lease savings (if the lease is at below market rent, it is an intangible asset):

  • Seller: If held for more than one year, is long-term capital gain
  • Buyer: Amortize value over 15 years

Value placed on Covenant Not to Compete (include time and distance of covenant):

  • Seller: Ordinary income as received
  • Buyer: Amortize over 15 years

Value placed on Training/Consultation (include schedule of time, hours, etc.):

  • Seller: Ordinary income as received
  • Buyer: Expense out as paid

Value placed on Registered Vehicles (do not include in Tangible Personal Property above):

  • Seller: If held more than one year, the gains in excess of depreciation are long-term capital gain; otherwise ordinary income
  • Buyer: Establishes basis, depreciate per IRS schedules

Value placed on Liquor License (include license type and number; is an intangible asset):

  • Seller: If held for more than one year, is long-term capital gain
  • Buyer: Amortize over 15 years

Value placed on Customer List:

  • Seller: Ordinary income as received
  • Buyer: Amortize over 15 years

Value placed on Goodwill:

  • Seller: If held for more than one year, is long-term capital gain
  • Buyer: Amortize over 15 years

Value placed on Buildings:

  • Seller: If held more than one year, the gains in excess of depreciation are long-term capital gain; otherwise ordinary income
  • Buyer: Establishes basis, depreciate per IRS schedules

Value placed on Land:

  • Seller: If held more than one year, the gains in excess of depreciation are long-term capital gain; otherwise ordinary income
  • Buyer: No immediate tax impacts

Value placed on Inventory:

  • Seller: Ordinary income, to the extent that it is over basis
  • Buyer: Treated as "cost of goods sold" upon sale of products

...

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Customer reply replied 9 months ago
Does Section 1411(c)(4) provide an exception for gain from the sale of stock (not assets) by a stockholder of an S Corp who materially participates in the business?

That's right. If the shareholder materially participated in the business, the shareholder’s share of the trade or business income is not treated as net investment income and is therefore not subject to the additional 3.8% tax.

...

The shareholder must meet one of the following seven tests:

  1. The shareholder participated in the activity for more than 500 hours during the year;
  2. The shareholder’s participation in the activity constituted substantially all the participation of all individuals in the activity;
  3. The shareholder participated for more than 100 hours in the activity, and the shareholder’s hours were not less than those of any other participant in the activity;
  4. The activity is a significant participation activity for the year, and the shareholder’s aggregate participation in all significant participation activities exceeded 500 hours;
  5. The shareholder materially participated in the activity for any five of the past 10 years;
  6. The activity is a personal services activity where the shareholder materially participated in the activity for any three years preceding the tax year; or
  7. Based on all the facts and circumstances, the shareholder participated in the activity on a regular, continuous, and substantial basis.
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Thanks,

Lane

I hold a law degree (J.D.), with concentration in Tax Law, Estate law & Corporate law, an MBA in finance, a BBA, and CFP & CRPS (Chartered Retirement Plans Specialist) designations, as well - I’ve been providing financial, Social Security/Medicare, estate, corporate, non-profit, and tax advice 1986.

Lane
Lane, JD, CFP, MBA, CRPS
Category: Tax
Satisfied Customers: 14,441
Experience: Law Degree, specialization in Tax Law and Corporate Law, CFP and MBA, Providing Financial & Tax advice since 1986
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