Tax considerations in the entity selection process: IRS Form 8832

October 14, 2014

Tax stock calculation sheetTraditional analysis of entity selection focused on comparing and contrasting the tax and non-tax characteristics of a limited group of prospective business forms, namely proprietorships, general and limited partnerships and corporations (C and S forms for tax purposes). In recent years, however, the creation and acceptance of new business forms, such as limited liability companies (“LLCs”) and limited liability partnerships (“LLPs”), that can be used to control and limit non-tax liability, and the easing of prior regulations by the Internal Revenue Service (“IRS”) to facilitate entrepreneurial flexibility (i.e., the check-the-box regulations), has dictated a transformation of the analytical process. The preferred sequence for legal and tax professionals at this point is to first identify for clients the four main types of “tax treatment” for businesses and then take the clients through a series of common organizational, operational and exit transactions to determine how the choice of a specific treatment will impact the principals of the business. Once that process is completed, the professional can focus on some of the more subtle issues that must be considered in selecting a specific entity or structure (i.e., if two or more related entities are needed) within a group of entities or structures that offer the desired tax treatment.

As part of this entire process, the legal or tax professional should be able to explain the default rules that apply under the tax laws with respect to classification of business entities and the steps that can be taken to elect a non-default classification by completing and filing Form 8832 (Entity Classification Election) with the IRS. See Specialty Form at § 3:94.  The form must include all of the information requested. Failure to include required information will render the election void.

  • A copy of the form must be attached to the entity’s federal income tax or information return for the year in which the election is made.
  • Where the entity is not required to file a return, a copy of the form must be attached to the return of any direct or indirect owner of the entity.
  • Failure to attach a copy of the form will not render an election void, but may subject the non-filing party to penalties.
  • The entity may specify an effective date for the election, but the date cannot be more than 75 days before or 12 months after the election is filed.
  • Once an election is made, the entity may not change its classification for five years, unless there is a more than 50 percent change in ownership of the entity and the IRS consents to the new election.
  • The election must be signed by each member of the entity or by any officer, manager, or owner who is authorized to make the election and who makes a representation under penalty of perjury that he has the authority to make the election.