Who's the Employer?

All 5 owners basically run the 5 companies, same building, same equipment, same trucks etc. Is there a possibility to see these a single employer under the management company guidelines? I hate to have to treat them as a multiple employer when there is basically no real testing needed anyway. Any hints?

Answer: This situation is more common than you think, and indeed my book addresses one of the more commonly used strategies to create a controlled group.

The attribution rules provide a vehicle for creating a controlled group. Under these rules, someone is deemed to own stock who does not actually own it. Probably the easiest of the attribution rules to employ in this manner is the option attribution rule. If I own an option to buy stock, it is as though I own the stock. At this point, let me quote from Q 7:7 of my book Who's the Employer?:

Can options be used deliberately to create a controlled group?

Usually, taxpayers wish to avoid having corporations treated as a controlled group. Sometimes, however, taxpayers want to create a controlled group where one does not otherwise exist (perhaps to simplify filing requirements or deductibility in a multiple employer plan).

Potentially the most painless way to create a controlled group is to give the owner of one corporation an option to purchase the other. However, this approach is fraught with pitfalls.

The most obvious problem is that the person given the option might choose to exercise it, now or in the future. If this is not what the parties intend, such a result could be a calamity for the party that has to sell. For this reason, such a move should only be considered if both parties are represented by competent legal counsel.

One way around this problem is to set the option price so high that nobody would ever want to exercise it. If your stock today is worth $100, and you give me an option to buy it for $1,000,000, it is a fairly safe bet I will not want to exercise the option (unless the corporation acquires a winning lottery ticket). Although there are no reported cases dealing with this issue, the IRS could argue that an option with a grossly inflated price is illusory. The IRS would argue that the option has no substantial economic effect, and therefore should be ignored.

It is certainly possible to have an option price somewhat higher than the current fair market value. In fact, such options are often granted to key employees of large corporations as an incentive to increase stock values. However, an option price grossly in excess of the current value is likely to cause the IRS to ignore the option if it suits the government's interests to do so.

Of course, in granting such an option, one must insure that all appropriate corporate formalities are followed. The grant of an option is the issuance of a security which, in some states, may require a filing with a state agency or a specific exemption from filing. Naturally, options can be granted only to individuals who can actually own the stock. Hence, in most states a nurse cannot be given an option to buy stock in a professional medical corporation, because the nurse cannot legally own the stock.

• Other Q&A Columns