Page 42 - TaxAdviser_2022

CASE STUDY
CASE STUDY

Identifying corporations

subject to the at-risk rules

Editor: The Sec. 465 at-risk rules are intended amount of loss a corporation may rec-
Trenda Hackett, CPA to prevent taxpayers from deducting ognize from an activity is limited to the
losses in tax shelters and similar activi- amount that is at risk for that activity at
ties in excess of the actual amount of the close of the tax year (Sec. 465(a)(1)).
money they might lose if the activity was When applying the rules to amounts
abandoned. The rules have no effect on borrowed, one of the more difficult
profitable activities. These rules limit the issues involves contingent or deferred
The at-risk rules limit losses allowed to certain closely held C obligations. Clearly, the mere guarantee
the losses allowed corporations on investments in certain by an investor of another’s debt does
to closely held C activities (Sec. 465(a)(1)). not increase the amount at risk (Prop.
For purposes of the at-risk rules, a
Regs. Sec. 1.465-6(d)). But the extent to
corporations on closely held C corporation is a corpora- which contingent liabilities and deferred
certain investments, tion in which five or fewer individuals obligations increase the amount at risk
own (directly or indirectly) at any time
is less clear. Prop. Regs. Sec. 1.465-6(c)
testing each separate during the last half of the tax year more states that when the taxpayer is liable
activity to determine than 50% in value of the stock. For this for repayment based only on the occur-
purpose, a personal service corporation
rence of a contingency, the taxpayer is
if the corporation can be a closely held corporation. considered at risk if the likelihood of
is at risk for that The at-risk rules cover losses in farm- the contingency occurring is such that
activity; however, ing; oil, gas, and geothermal exploration; the taxpayer is not effectively protected
against loss or if the protection does not
equipment leasing; movie or videotape
if the corporation holding, production, and distribution; cover all likely possibilities.
holds an interest in a and all trade or business activities or Example 1. At-risk amount based
activities for the production of income
partnership, separate not already specified (Secs. 465(c)(1) on contingent liability: M Corp.,
activities of the and (3)). A corporation is considered at a closely held corporation, is en-
same type may be risk in an activity to the extent of: (1) gaged in the activity of farming. To
cash contributed to the activity; (2) the
finance farming operations for the
combined. adjusted basis of other property contrib- current year, M borrows $100,000
uted; (3) amounts borrowed for use in from a bank. M pledges its corn
the activity if the corporation is liable for crop for all future years as security
repayment; and (4) amounts borrowed for the loan. The loan agreement
for use in the activity to the extent the states that M is not liable for re- PHOTO BY COMSTOCK/STOCKBYTE/THINKSTOCK
This case study has been adapted from corporation has pledged property other payment of the loan beyond this
Checkpoint Tax Planning and Advisory than property used in the activity as collateral. However, the agreement
Guide’s Closely Held C Corporations
topic. Published by Thomson Reuters, security for the borrowed amount (to the contains one exception stating that
Carrollton, Texas, 2021 (800-431-9025; extent of the net fair market value of the M will be liable beyond this col-
tax.thomsonreuters.com). corporation’s interest) (Sec. 465(b)). The lateral if the crops are destroyed as

40 January 2022 The Tax Adviser