Banking Taxation:

Implications of Proposed Revisions Governing S-Corporations on Community Banks

GGD-00-159: Published: Jun 23, 2000. Publicly Released: Jun 23, 2000.

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Pursuant to a legislative requirement, GAO: (1) analyzed possible revisions to the tax rules governing S-corporations; and (2) determined the potential impact such revisions might have, primarily on community banks.

GAO noted that: (1) GAO studied five possible revisions to the tax rules governing S-corporations; (2) the proposed provisions were written to address perceived obstacles to becoming S-corporations cited by representatives of the banking industry; (3) two of the five proposed tax changes that GAO analyzed--increasing the number of shareholders and allowing individual retirement accounts as shareholders--would affect both nonbank and bank corporations; (4) expanding the number of eligible shareholders would allow more firms to choose to become S-corporations; (5) increasing the shareholder limit, however, appears to be more important to the banking industry than to other industries because S-corporation banks have significantly more shareholders than S-corporations from other industries; (6) the three remaining provisions--clarifying passive income rules, tax treatment of bank director shares, and tax accounting of bad debts--specifically affect individual banks' corporate strategies; (7) banks face certain obstacles in becoming S-corporations that are situational to an individual bank's history and business strategy; (8) the proposed tax provisions would allow allow more and larger banks to benefit from not paying corporate tax by electing S-corporation status, and the overall impact on community banks would be determined by this expansion; (9) it is difficult to project how many banks could be affected by the proposed tax changes; (10) estimates ranged from about 300 to 5,700 banks and thrifts; (11) the proposed provisions could help community banks become more competitive relative to credit unions to the extent that converting banks provide the same services offered by credit unions; (12) the benefits of these proposed provisions for community banks relative to larger banks would depend on the characteristics of the converting banks; and (13) other potential impacts of the proposed provisions include: (a) tax revenue losses estimated by the Joint Committee on Taxation to be at least $748 million over a 5-year period; and (b) behavioral changes--higher dividends and lower capital in S-corporation banks, relative to comparable banks, that might have regulatory implications.

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