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small businesses) is also subject to the alternative minimum tax. Simply described, that tax guards
against individuals and profitable corporations paying little or no tax by overuse of certain deductions
and tax credits otherwise available. To calculate the tax, the taxpayer adds to its otherwise taxable
income, certain so-called tax preferences and then subtracts from that amount an exemption amount
($40,000 for most corporations). The result is taxed at 20% for corporations (26% and 28% for
individuals). If that tax amount exceeds the income tax otherwise payable, the higher amount is paid.
The result of this is additional tax for those taxpayers with substantial tax preferences.
Among those tax preferences for C corporations is a concept known as adjusted current earnings.
This concept adds as a tax preference three-quarters of the difference between the corporation‟s
earnings for financial reporting purposes and the earnings otherwise reportable for tax purposes. A
major source of such a difference would be the receipt of nontaxable income. And the receipt of life
insurance proceeds is just such an event. Therefore, the receipt of a life insurance payout of sufficient
size will ultimately be taxed, at least in part, to a C corporation, whereas it would be completely taxfree
to an S corporation or the remaining stockholders.
An additional factor pointing to the stockholder cross-purchase agreement rather than a corporate
redemption is the effect this choice would have on the taxability of a later sale of the corporation after
Morris‟s death. If the corporation were to redeem Morris‟s stock, Lisa and Brad would each own onehalf
of the corporation through their ownership of 10 shares each. If they then sold the company, they
would be subject to tax on capital gain measured by the difference between the proceeds of the sale
and their original basis in their shares. However, if Lisa and Brad purchased Morris‟s stock at his
death, they would each own one-half of the corporation through their ownership of 50 shares each.
Upon a later sale of the company, their capital gain would be measured by the difference between the
sale proceeds and their original basis in their shares plus the amount paid for Morris‟s shares. Every
dollar paid to Morris lowers the taxable income received upon later sale. In a redemption agreement,
these dollars are lost.
Spin-Offs and Split-Ups
Morris‟s pleasant reverie caused by thoughts of well-funded retirement strategies and clever estate
plans is brought to a sudden halt a mere two years after the acquisition of the molding operation, when
it becomes clear that the internecine jealousies between Brad and Lisa are becoming unmanageable.
Ruefully, Morris concedes that it is not unforeseeable that the manager of a significant part of his
business would resent the presence of a rival who would be perceived as having attained her present
position simply by dint of her relationship to the owner. This jealousy is, of course, inflamed by the
thought that Lisa might succeed to Morris‟s stock upon his death and become Brad‟s boss.
After some months of attempting to mediate the many disputes between Lisa and Brad, which are
merely symptoms of this underlying disease, Morris comes to the conclusion that the corporation
cannot survive with both of them vying for power and influence. He determines that the only workable
solution would be to break the two businesses apart once again, leaving the two rivals in charge of
their individual empires, with no future binding ties.
Experienced in corporate transactions by this time, Morris gives the problem some thought and
devises two alternate scenarios to accomplish his goal. Both scenarios begin with the establishment of