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A consolidated tax return is a corporate income tax return of an affiliated group, who elect to report their combined tax liability on a single return.

How To File A Consolidated Tax Return

Consent by all the corporations within a group to file a consolidated return, which subsidiaries do by filing Form 1122, Authorization and Consent Income Tax Return and attaching it to their group Form 1120. After which the affiliated group is referred to as a consolidated group.

A consolidated group can only exist when the parent corporation satisfies the 80% rule for at least 1 subsidiary. Other members can choose to leave the group without terminating the group’s status. Companies can also join the group later, without having to go through the stress to file form 1122.

Once the parent company satisfies 80% rule, the parent company defines the group. The group still maintain existence if the parent satisfies the 80% rule for another corporation within the group, even when the original subsidiary that defined the group decides to leave the group.

A consolidated tax return gives reports on the income generated or loss incurred of the parent for the entire business year, but only a section of the year for which any affiliated group belonged to the group must be reported on the consolidated return. If perhaps any affiliate had any transaction history apart from the ones known to the group during a portion of the tax that year, then that portion must be reported separately on the company’s own Form 1120.

Consolidated Tax Return

The consolidated tax return Form 1120 is strictly advised to file by the parent of the consolidated group, all the affiliate must adopt the parent’s tax year. Although each entity may decide to adopt its own style of accounting, the information must be in accordance and consolidated to determine taxable income, which requires this 4 steps:

Step 1: All the entity must first determine its taxable income, profits, deductions, and losses.

Step 2: All the affiliate must account for all intracompany transactions, which are all those transactions between 2 or more members of the group.

 

Step 3: All the affiliate must then determine its net income or loss by excluding those items that have to consolidate. The net income or loss is referred to as a separate taxable income. The items are generally calculated using these consolidated criteria which include: capital gains, dividend received deductions, charitable contribution deductions e.t.c.

Step 4: The separate taxable incomes belonging to all the affiliates are then totaled so that the consolidated items can be netted among the group to arrive at the group’s consolidated taxable income (CTI). The parent reports the CTI on Form 1120, note each item on the form is either the sum of the items of each affiliate or the whole consolidated group item. The parent must also attach the form 851, affiliations schedule whenever there is a need to file a consolidated return.

Consolidation Effects

The consolidation of the tax returns of any affiliated group includes consolidating the group’s regular income tax, foreign tax credit, accumulated tax earnings, and any tax credits.

Most importantly the parent company is liable to serve as the group’s agent as regards filing the consolidated Form 1120 and also paying the federal tax liability. All the company that was affiliated during any part of the year still maintains liability for any federal income tax of the group.

 

Advantages Of Consolidated Tax Returns

The advantages of filing consolidated returns include:

  • The profits of one company can be offset against the loss of another.
  • Capital gains and losses can be netted out.
  • Taxes are not charged on intracompany transactions.
  • Income recognition is deferred on any intracompany transactions.
  • All unused foreign tax credit by one company can be used by another in the group.
  • all tax matters are addressed through the parent company which serves as an agent.

Disadvantages Of Consolidated Tax Returns

  • All accumulated loss and profits of the whole group are considered when calculating the accumulated tax liability, considering the fact that a single minimum credit account can be used.
  • Where matching rules apply all the intracompany transactions must be tracked over a period of years.
  • With the recognition of income resulting from deferred intracompany transactions, so are many losses.