Code Section Group

Revenue and Taxation Code - RTC

DIVISION 2. OTHER TAXES [6001 - 60709]

  ( Heading of Division 2 amended by Stats. 1968, Ch. 279. )

PART 11. CORPORATION TAX LAW [23001 - 25141]

  ( Heading of Part 11 amended by Stats. 2001, Ch. 543, Sec. 21. )

CHAPTER 4.5. Tax Treatment of S Corporations and Their Shareholders [23800 - 23813]
  ( Chapter 4.5 added by Stats. 1987, Ch. 1139, Sec. 55. )

23800.
  

Subchapter S of Chapter 1 of Subtitle A of the Internal Revenue Code, relating to the tax treatment of “S corporations” and their shareholders, shall apply, except as otherwise provided.

(Amended by Stats. 2003, Ch. 268, Sec. 4. Effective January 1, 2004.)

23800.5.
  

(a) Section 1361(b)(3) of the Internal Revenue Code, relating to treatment of certain wholly owned subsidiaries, is modified as follows:

(1) For purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part:

(A) Section 1361(b)(3)(A)(i) of the Internal Revenue Code shall apply, except as provided in subparagraph (B).

(B) There is hereby imposed a tax annually in an amount equal to the applicable amount specified in paragraph (1) of subdivision (d) of Section 23153 on a qualified Subchapter S subsidiary that is incorporated under the laws of this state, qualified to transact intrastate business in this state pursuant to Chapter 21 (commencing with Section 2100) of Division 1 of Title 1 of the Corporations Code, or doing business in this state.

(C) Every qualified Subchapter S subsidiary described in subparagraph (B) shall be subject to the tax imposed under subparagraph (B) from the earlier of the date of incorporation, qualification, or commencement of business in this state, until the effective date of dissolution or withdrawal as provided in Section 23331, or, if later, the date the corporation ceases to do business in this state.

(2) For purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part:

(A) Section 1361(b)(3)(A)(ii) of the Internal Revenue Code does not apply and, in lieu thereof, subparagraph (B) shall apply and all references to Section 1361(b)(3)(A)(ii) of the Internal Revenue Code shall be treated as a reference to subparagraph (B).

(B) All activities, assets, liabilities, including liability for the tax imposed under this subdivision, and items of income, deduction, and credit of a qualified Subchapter S subsidiary shall be treated as activities (including activities for purposes of Section 23101), assets, liabilities, and those items, as the case may be, of the “S corporation.”

(3) Section 1361(b)(3)(B) of the Internal Revenue Code is modified to include the following requirements in addition to the requirements contained therein:

(A) The “S corporation” has in effect a valid election to treat the corporation as a qualified Subchapter S subsidiary for federal income tax purposes.

(B) An election made by the “S corporation” under Section 1361(b)(3)(B)(ii) of the Internal Revenue Code to treat the corporation as a qualified Subchapter S subsidiary for federal income tax purposes shall be treated for purposes of this part as an election made by the “S corporation” under this subdivision and a separate election under paragraph (3) of subdivision (e) of Section 23051.5 may not be allowed.

(C) No election under this subdivision shall be allowed unless the “S corporation” has made the election under Section 1361(b)(3)(B)(ii) of the Internal Revenue Code to treat the corporation as a qualified Subchapter S subsidiary for federal income tax purposes.

(b) Section 1361(c)(6) of the Internal Revenue Code, relating to certain exempt organizations permitted as shareholders, is modified by substituting a reference to Section 17631 or Section 23701d in lieu of the reference to Section 501(c)(3) of the Internal Revenue Code and by substituting a reference to Section 17631 or Section 23701 in lieu of the reference to Section 501(a) of the Internal Revenue Code.

(c) Section 1361(e)(1)(B)(ii) of the Internal Revenue Code, relating to certain trusts not eligible, is modified by substituting “under Part 10 (commencing with Section 17001) or this part” in lieu of “under this subtitle.”

(d) Section 1361(e)(3) of the Internal Revenue Code, relating to election, is modified to include the following provisions:

(1) An election made by the trustee under Section 1361(e) of the Internal Revenue Code to be an electing small business trust for federal income tax purposes shall be treated for purposes of this part as an election made by the trustee under this subdivision and a separate election under paragraph (3) of subdivision (e) of Section 23051.5 may not be allowed. Any election made shall apply to the taxable year of the trust for which that election is made and to all subsequent taxable years of that trust, unless revoked with the consent of the Franchise Tax Board.

(2) No election under this subdivision shall be allowed unless the trustee has made the election under Section 1361(e) of the Internal Revenue Code to be an electing small business trust for federal income tax purposes.

(Amended by Stats. 2003, Ch. 268, Sec. 5. Effective January 1, 2004.)

23801.
  

(a) A corporation that has in effect for federal income tax purposes a valid election under Section 1362(a) of the Internal Revenue Code shall be an “S” corporation for purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part.

(b) A corporation that is an “S corporation” for federal income tax purposes, shall be an “S corporation” for purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part, and its shareholders shall be shareholders of an “S corporation” without regard to whether the corporation is qualified to do business or is incorporated in this state.

(c) Except as provided in subdivision (d), a corporation that is an “S corporation” for purposes of this part may not be included in a combined report pursuant to Chapter 17 (commencing with Section 25101).

(d) (1) In cases where the Franchise Tax Board determines that the reported income or loss of a group of commonly owned or controlled corporations (within the meaning of Section 25105), that includes one or more corporations treated as an “S corporation” under Chapter 4.5 (commencing with Section 23800), does not clearly reflect income (or loss) of a member of that group or represents an evasion of tax by one or more members of that group, and the Franchise Tax Board determines that the comparable uncontrolled price method prescribed by regulations pursuant to Section 482 of the Internal Revenue Code cannot practically be applied, the Franchise Tax Board may, in lieu of other methods prescribed by regulations pursuant to Section 482 of the Internal Revenue Code, apply methods of unitary combination, pursuant to Article 1 (commencing with Section 25101) of Chapter 17, to properly reflect the income or loss of the members of the group.

(2) The application of the provisions of this subdivision shall not affect the treatment of any corporation as an “S corporation.”

(e) (1) A termination of a federal election pursuant to Section 1362(d) of the Internal Revenue Code, that is not an inadvertent termination pursuant to Section 1362(f) of the Internal Revenue Code, shall simultaneously terminate the “S corporation” election for purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part.

(2) A federal termination by revocation shall be effective for purposes of this part and shall be reported to the Franchise Tax Board in the form and manner prescribed by the Franchise Tax Board no later than the last date allowed for filing federal termination for that year under Section 1362(d) of the Internal Revenue Code.

(f) The tax for a “C corporation” for a short year shall be determined in accordance with Chapter 13 (commencing with Section 24631), in lieu of Section 1362(e)(5) of the Internal Revenue Code.

(g) Section 1362(d)(3) of the Internal Revenue Code, relating to circumstances where passive investment income exceeds 25 percent of gross receipts for three consecutive taxable years and the corporation has accumulated earnings and profits, does not apply unless the “S” election is terminated for federal income tax purposes.

(h) (1) The provisions of Section 1362(b)(5) of the Internal Revenue Code, relating to authority to treat late elections, etc., as timely, shall apply only for taxable years beginning on or after January 1, 1997, with respect to elections under Section 1362(a) of the Internal Revenue Code for taxable years beginning on or after January 1, 1997.

(2) Notwithstanding the provisions of paragraph (1), if for any taxable year beginning on or after January 1, 2003, a corporation fails to qualify as an “S corporation” for federal income tax purposes solely because the federal Form 2553 (Election by a Small Business Corporation) was not filed timely, the corporation shall be treated for purposes of this part as an “S corporation” for the taxable year the “S corporation” election should have been made, and for each subsequent year until terminated, if the corporation and its shareholders have filed with the Internal Revenue Service a federal Form 2553 requesting automatic relief with respect to the late “S corporation” election, in full compliance with the federal Revenue Procedure 1997-48, I.R.B. 1997-43, and have received notification of the acceptance of the untimely filed “S corporation” election from the Internal Revenue Service. A copy of the notification shall be provided to the Franchise Tax Board upon request.

(i) The provisions of Section 1362(f) of the Internal Revenue Code, relating to inadvertent invalid elections or terminations, shall apply only for taxable years beginning on or after January 1, 1997, with respect to elections under Section 1362(a) of the Internal Revenue Code for taxable years beginning on or after January 1, 1997.

(Amended by Stats. 2003, Ch. 268, Sec. 6. Effective January 1, 2004.)

23802.
  

(a) Section 1363(a) of the Internal Revenue Code, relating to the taxability of an “S” corporation does not apply.

(b) Corporations that are “S” corporations under this chapter shall continue to be subject to the taxes imposed under Chapter 2 (commencing with Section 23101) and Chapter 3 (commencing with Section 23501), except as follows:

(1) The tax imposed under Section 23151 or 23501 shall be imposed at a rate of 11/2 percent rather than the rate specified in those sections.

(2) In the case of an “S” corporation that is also a financial corporation, the rate of tax specified in paragraph (1) shall be increased by the excess of the rate imposed under Section 23183 over the rate imposed under Section 23151.

(c) An “S” corporation is subject to the minimum franchise tax imposed under Section 23153.

(d) (1) For purposes of subdivision (b), an “S” corporation shall be allowed a deduction under Section 24416 or 24416.1 (relating to net operating loss deductions), but only with respect to losses incurred during periods in which the corporation is an “S” corporation for purposes of this part.

(2) Section 1371(b) of the Internal Revenue Code, relating to denial of carryovers between “C” years and “S” years, applies for purposes of the tax imposed under subdivision (b), except as provided in paragraph (1).

(3) The provisions of this subdivision do not affect the amount of any item of income or loss computed in accordance with the provisions of Section 1366 of the Internal Revenue Code, relating to pass-thru of items to shareholders.

(4) For purposes of subdivision (b) of Section 17276, relating to limitations on loss carryovers, losses passed through to shareholders of an “S” corporation, to the extent otherwise allowable without application of that subdivision, shall be fully included in the net operating loss of that shareholder and then that subdivision shall be applied to the entire net operating loss.

(e) For purposes of computing the taxes specified in subdivision (b), an “S” corporation shall be allowed a deduction from income for built-in gains and passive investment income for which a tax has been imposed under this part in accordance with the provisions of Section 1374 of the Internal Revenue Code, relating to tax imposed on certain built-in gains, or Section 1375 of the Internal Revenue Code, relating to tax imposed on passive investment income.

(f) For purposes of computing taxes imposed under this part, as provided in subdivision (b):

(1) An “S” corporation shall compute its deductions for amortization and depreciation in accordance with the provisions of Part 10 (commencing with Section 17001) of Division 2.

(2) Section 465 of the Internal Revenue Code, relating to limitation of deductions to the amount at risk, shall be applied in the same manner as in the case of an individual.

(3) (A) Section 469 of the Internal Revenue Code, relating to limitations on passive activity losses and credits, shall be applied in the same manner as in the case of an individual. For purposes of the tax imposed under Section 23151 or 23501, as modified by this section, material participation shall be determined in accordance with Section 469(h) of the Internal Revenue Code, relating to certain closely held “C” corporations and personal service corporations.

(B) For purposes of this paragraph, the “adjusted gross income” of the “S” corporation shall be equal to its “net income,” as determined under Section 24341 with the modifications required by this subdivision, except that a deduction shall not be allowed for contributions allowed by Section 24357.

(4) The deduction for bad debts under paragraph (2) of subdivision (a) of Section 24348 shall not be allowed to an “S” corporation.

(g) (1) The provisions of Section 1363(d) of the Internal Revenue Code, relating to recapture of LIFO benefits, shall be modified for purposes of this part to refer to Section 19101 in lieu of Section 6601 of the Internal Revenue Code.

(2) For purposes of Section 19023, relating to the definition of “estimated tax,” and Section 19142, relating to an addition to tax for underpayment of estimated tax, the tax imposed pursuant to this subdivision is not a tax imposed by this part.

(Amended by Stats. 2018, Ch. 92, Sec. 199. (SB 1289) Effective January 1, 2019.)

23802.5.
  

(a) Section 1366(a)(1) of the Internal Revenue Code, relating to determination of shareholder’s tax liability, is modified to apply to the final taxable year of a trust or estate that terminates before the end of the corporation’s taxable year.

(b) Section 1366(d)(1)(A) of the Internal Revenue Code, relating to losses and deductions that cannot exceed shareholder’s basis in stock and debt, is modified to additionally provide that the adjusted basis of a shareholder’s stock in the “S corporation” is to be decreased by distributions by the corporation that were not includable in the income of the shareholder by reason of Section 1368 of the Internal Revenue Code.

(c) Section 1366(d)(3) of the Internal Revenue Code, relating to carryover of disallowed losses and deductions to post-termination transition period, is modified to provide that to the extent that any increase in adjusted basis described in Section 1366(d)(3)(B) of the Internal Revenue Code would have increased the shareholder’s amount at risk under Section 465 if the increase had occurred on the day preceding the commencement of the post-termination transition period, rules similar to the rules described in Section 1366(d)(3)(A) to (C), inclusive, of the Internal Revenue Code shall apply to any losses disallowed by reason of Section 465(a) of the Internal Revenue Code.

(Amended by Stats. 2003, Ch. 268, Sec. 8. Effective January 1, 2004.)

23803.
  

(a) With respect to credits that are otherwise allowed to reduce the taxes imposed under this part:

(1) The amount of any credit to be claimed shall be limited to one-third of the amount otherwise allowable.

(2) (A) Any unused portion of the credit allowable under paragraph (1) (one-third of the total credit) shall be allowed to be carried forward and may not be subject to additional reductions under paragraph (1) in later years.

(B) No carryforward shall be allowed for the portion of the credit denied under paragraph (1) (two-thirds of the total credit).

(C) Credits carried forward from taxable years beginning prior to the first taxable year in which the corporation is treated as an “S corporation” under this part, shall be reduced in accordance with paragraph (1) for that first taxable year and may not be subject to additional reductions under paragraph (1) in later years.

(D) The provisions of paragraphs (2) and (3) of subdivision (f) of Section 23802 shall be applied prior to the reduction required by paragraph (1).

(E) No portion of any credit to which this subdivision applies shall be passed through to the shareholders of the “S corporation.”

(F) The provisions of this subdivision do not affect the amount of any credit computed under Part 10 (commencing with Section 17001) for pass through to shareholders in accordance with the provisions of Section 1366 of the Internal Revenue Code.

(b) Section 1366(f) of the Internal Revenue Code, relating to special rules, shall be modified as follows:

(1) The amount of tax used to compute the loss allowed by Section 1366(f)(2) shall be the amount of tax imposed on built-in gains under this part.

(2) The amount of tax used to compute the reduction allowed by Section 1366(f)(3) shall be the amount of tax imposed on excess net passive income under this part.

(Amended by Stats. 2003, Ch. 268, Sec. 9. Effective January 1, 2004.)

23804.
  

Section 1367(b)(4) of the Internal Revenue Code, relating to adjustments in case of inherited stock, shall apply for decedents dying after December 31, 1996.

(Amended by Stats. 2003, Ch. 268, Sec. 10. Effective January 1, 2004.)

23806.
  

(a) Section 1371(a) of the Internal Revenue Code, relating to application of Subchapter C rules, is modified to provide that, notwithstanding subdivisions (a) and (e) of Sections 17024.5 and 23051.5, any election by an “S corporation” or its shareholders under Section 338 of the Internal Revenue Code, relating to certain stock purchases treated as asset acquisitions, for federal purposes shall be treated as an election for purposes of this part and a separate election under paragraph (3) of subdivision (e) of Section 17024.5 or 23051.5 shall not be allowed.

(b) No election under Section 338 of the Internal Revenue Code, relating to certain stock purchases treated as asset acquisitions, shall be allowed for state purposes unless the “S corporation” or its shareholders made a valid election for federal purposes under Section 338 of the Internal Revenue Code.

(c) Section 1371 (d) of the Internal Revenue Code shall not apply.

(d) (1) Subdivisions (a) and (b) shall apply to any transaction occurring on or after January 1, 1998, in a taxable year beginning on or after January 1, 1997.

(2) Subdivision (c) shall apply to taxable years beginning on or after January 1, 1997.

(Amended by Stats. 2000, Ch. 862, Sec. 111. Effective January 1, 2001.)

23807.
  

Section 1372 of the Internal Revenue Code shall be modified so that references to partnership treatment shall be to Internal Revenue Code partnership provisions, as modified by Part 10 (commencing with Section 17001).

(Added by Stats. 1987, Ch. 1139, Sec. 55. Effective September 25, 1987. Applicable to income years beginning on or after January 1, 1987, by Sec. 241 of Ch. 1139.)

23808.
  

Sections 1373 and 1379 of the Internal Revenue Code shall not be applicable.

(Amended by Stats. 1988, Ch. 11, Sec. 64. Effective February 19, 1988. Applicable to income years beginning on or after January 1, 1988, by Sec. 93 of Ch. 11.)

23809.
  

There is hereby imposed a tax on built-in gains attributable to California sources, determined in accordance with the provisions of Section 1374 of the Internal Revenue Code, relating to tax imposed on certain built-in gains, as modified by this section.

(a) (1) The rate of tax specified in Section 1374(b)(1) of the Internal Revenue Code shall be equal to the rate of tax imposed under Section 23151 in lieu of the rate of tax specified in Section 11(b) of the Internal Revenue Code.

(2) In the case of an “S” corporation that is also a financial corporation, the rate of tax specified in paragraph (1) shall be increased by the excess of the rate imposed under Section 23183 over the rate imposed under Section 23151.

(b) The provisions of Section 1374(b)(3) of the Internal Revenue Code, relating to credits, are modified to provide that the tax imposed under subdivision (a) may not be reduced by any credits allowed under this part.

(c) The provisions of Section 1374(b)(4) of the Internal Revenue Code, relating to coordination with Section 1201(a), do not apply.

(d) (1) For corporations described in paragraph (2), the provisions of Sections 1374(c)(1) and 1374(d)(7) of the Internal Revenue Code apply, based upon the effective date of the election to be treated as an “S” corporation for federal tax purposes, regardless of the date on which the corporation became an “S” corporation for state tax purposes.

(2) This subdivision applies to a corporation that, for its last taxable year beginning before January 1, 2002, was an “S” corporation for federal tax purposes and a “C” corporation for purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part, and, as a result of the enactment of Chapter 35 of the Statutes of 2002, is an “S” corporation for the corporation’s taxable years beginning on or after January 1, 2002.

(e) The amendments to this section made by the act adding this subdivision shall apply to taxable years beginning on or after January 1, 2002.

(Amended by Stats. 2004, Ch. 782, Sec. 1. Effective September 25, 2004. Note: Subd. (e) was added by Stats. 2004, Ch. 782.)

23811.
  

Except as otherwise provided in this section, there is hereby imposed a tax on passive investment income attributable to California sources, determined in accordance with the provisions of Section 1375 of the Internal Revenue Code, relating to tax imposed on passive investment income, as modified by this section.

(a) The tax imposed under this section may not be imposed on an “S corporation” that has no excess net passive income for federal income tax purposes determined in accordance with Section 1375 of the Internal Revenue Code.

(b) (1) The rate of tax shall be equal to the rate of tax imposed under Section 23151 in lieu of Section 11(b) of the Internal Revenue Code.

(2) In the case of an “S corporation” that is also a financial corporation, the rate of tax specified in paragraph (1) shall be increased by the excess of the rate imposed under Section 23183 over the rate imposed under Section 23151.

(c) Section 1375(c)(1) of the Internal Revenue Code, relating to credits, is modified to provide that the tax imposed under subdivision (a) may not be reduced by any credits allowed under this part.

(d) The term “subchapter C earnings and profits” or “accumulated earnings and profits” as used in Section 1375 of the Internal Revenue Code shall mean the “subchapter C earnings and profits” of the corporation attributable to California sources determined under this part, modified as provided in subdivision (e).

(e) (1) In the case of a corporation that is an “S corporation” for purposes of this part for its first taxable year for which it has in effect a valid federal S election, there shall be allowed as a deduction in determining that corporation’s “subchapter C earnings and profits” at the close of any taxable year the amount of any consent dividend (as provided in paragraph (2)) paid after the close of that taxable year.

(2) In the event there is a determination that a corporation described in paragraph (1) has “subchapter C earnings and profits” at the close of any taxable year, that corporation shall be entitled to distribute a consent dividend to its shareholders. The amount of the consent dividend may not exceed the difference between the corporation’s “subchapter C earnings and profits” determined under subdivision (d) at the close of the taxable year with respect to which the determination is made and the corporation’s “subchapter C earnings and profits” for federal income tax purposes at the same date. A consent dividend must be paid within 90 days of the date of the determination that the corporation has “subchapter C earnings and profits.” For this purpose, the date of a determination means the effective date of a closing agreement pursuant to Section 19441, the date an assessment of tax imposed by this section becomes final, or the date of execution by the corporation of an agreement with the Franchise Tax Board relating to liability for the tax imposed by this section. For purposes of Part 10 (commencing with Section 17001), Part 10.2 (commencing with Section 18401), and this part, a corporation must make the election provided in Section 1368(e)(3) of the Internal Revenue Code.

(3) If a corporation distributes a consent dividend, it shall claim the deduction provided in paragraph (1) by filing a claim therefor with the Franchise Tax Board within 120 days of the date of the determination specified in paragraph (2).

(4) The collection of tax imposed by this section from a corporation described in paragraph (2) shall be stayed for 120 days after the date of the determination specified in paragraph (2). If a claim is filed pursuant to paragraph (3), collection of that tax shall be further stayed until the date the claim is acted upon by the Franchise Tax Board.

(5) If a claim is filed pursuant to paragraph (3), the running of the statute of limitations on the making of assessments and actions for collection of the tax imposed by this section shall be suspended for a period of two years after the date of the determination specified in paragraph (2).

(Amended by Stats. 2003, Ch. 268, Sec. 13. Effective January 1, 2004.)

23813.
  

Section 1377(b)(2) of the Internal Revenue Code, relating to determination defined, is modified to include, in addition to the items specified therein, the following:

(a) A decision by the State Board of Equalization that has become final.

(b) A closing agreement made under Article 6 (commencing with Section 19441) of Chapter 6 of Part 10.2.

(c) A final disposition by the Franchise Tax Board of a claim for refund.

(Added by Stats. 1997, Ch. 611, Sec. 76. Effective October 3, 1997.)

RTCRevenue and Taxation Code - RTC