Accountants....question for you

March 21, 2024

by a searcher from University of Pennsylvania - The Wharton School in Miami, FL, USA

Hello!

I was speaking with a seller who just last week bought out her 50% partner (her sister). Involves real estate + OpCo.

Seller told me that, as part of the deal, she agreed not to sell the business for 2 years bc it would provide tax benefits to her sister (her former partner).

I have not heard of anything like this, but would not be surprised if there was something in the tax code addressing it.

Can anyone provide any colour?

Thank you!

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Reply by a searcher
from Western Governors University in York, PA, USA

I know this is an old post, but I wanted to expand on the previous answer given. With related-party sales, if the relative seller sells within 24 months, then the sale is essentially decreed to have been from the prior related party and the seller to the new buyer (both sisters in this case). The sister would then have to declare that income on her tax return and pay taxes on money that she never received. The 24 months is not a hard-set date, but generally 24 months after the related-party transaction, the IRS stops tracking and enforcing as hard, as there is only a three-year SOL for those that have filed their returns timely and accurately. There is a six-year look-back for certain types of transactions from specified parties, but without more details, I don't know if this would apply to this situation. On the flip-side, any losses from the sale to a related party are also disallowed, so if the seller bought the business from her sister at a loss and then the current seller sells it at a gain, the other sister would be able to take the loss against the amount that the sister would have received under their prior partnership. However, the current sister owner generally does not legally have to pay the other sister as they were already bought out and have exited. It's just that the IRS will treat the other sister as though she was never bought out if the sale is within the restricted time-frame. Perhaps the current owner sister overpaid her sister for her share deliberately and then plans to sell after the restricted time-frame is up so she (seller) can claim a loss? I'm not entirely sure what she means about the exiting sister getting tax benefits from leaving a closely held business. There aren't really any tax benefits to selling a business to a related party. Gain is considered ordinary income, taxable at up to the highest bracket, losses are not allowed, and selling again to an unrelated party means the prior related party is essentially penalized. *Disclaimer: This is not legal tax advice. Tax law implementation varies for each situation, and if you require tax advice, please contact your Enrolled Agent, or, if they specialize in taxes, your Certified Public Accountant or tax accountant.

Reply by a professional
from Harvard University in Lynbrook, NY 11563, USA

Two years is often a period that keeps you safe from the step transaction doctrine (a branch of the substance over form doctrine that collapses multiple step transactions into one for tax purposes), but hard to say without more detail if it's that (and what the underlying transaction generating the worry is, if yes) or something else.

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