What Is a Consolidated Tax Return?
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.
Consolidated Tax Returns Explained
A consolidated tax return combines the tax liability of all includible corporations in an affiliated group. An affiliated group is one or more chains of includible corporations, connected through stock ownership, with a shared includible parent corporation. Includible corporations are C corporations that are not explicitly listed foreign, insurance, tax-exempt, managed investment, or real estate investment corporations or trusts.
Corporations are part of the same affiliated group if at least 80% of the voting power and value of the stock of each is held by a mutual parent and by each other corporation of the affiliated group. Accordingly, many parent-subsidiary corporations and controlled groups qualify to file consolidated returns as related groups whereas brother-sister corporations and controlled groups do not.
Effect of Electing to File a Consolidated Return
An affiliated group elects to file a consolidated tax return by submitting Form 1120. Each affiliated corporation must consent to the original election on Form 1122. After that point, any new member of the associated group must join in the consolidated tax return. The consolidated return lists all income and expenses of each affiliated member, and based thereon, after necessary adjustments, a single tax. The election to file consolidated returns can be difficult to revoke. Once made, the choice remains binding on all subsequent tax years until the affiliated group terminates. The Internal Revenue Service may grant permission to discontinue the election.
Advantages and Disadvantages of Filing a Consolidated Return
An affiliated group electing to file a consolidated return may substantially alter its combined overall tax liability. For example, a consolidated return ignores sales between connected corporations. Deferment of taxable gains or losses become realized with the ultimate sale to an outside third party.
However, once losses are recognized, losses of one affiliated corporation can be used to offset income of another. Accordingly, the effect of filing a consolidated return on each member, and the affiliated group as a whole, are complicated and should be carefully considered before making the election. The associated group should consider its eligibility, its overall tax liability relative to separate filings, and the election’s effect on future years.