Selling Off A Member of a Consolidated Group: Intercompany Debt
Typically, the parent corporation of a U.S. based consolidated group of corporations will act as the primary source of capital to members of the group. Thus, for example, the parent corporation may borrow funds from a third party lender and then loan such funds to finance its subsidiaries' business operations.
When the consolidated group engages in a sale of one of the debtor subsidiaries, frequently efforts will be made to pay back the parent corporation prior to the sale for obvious reasons, i.e., the buyer does not want the target subsidiary to owe funds to the seller (parent). In many instances, however, the pay back or forgiveness of the indebtedness can result in offsetting income and deduction items to the members.
In general, where the intercompany receivable (held by the parent corporation for example) has a value worth less than face, the parent may claim a bad debt expense while the subsidiary recognizes cancellation of indebtedness income. While these amounts will frequently result in a "wash", the results are not entirely neutral. Where there is cancellation of indebtedness income, such amount will increase the adjusted basis of the debtor subsidiary's stock under the consolidated return "investment adjustment" rules. If the parent recognizes a loss on the sale of the subsidiary's stock, some or all of the loss attributable to that last-minute stock basis increase may be disallowed.
The unified loss and investment basis adjustment regulations to the consolidated return rules must be carefully analyzed and applied when engaged in "cleaning up" a target subsidiary's balance sheet prior to a sale of its stock.
