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Entities

Question: Can you give me plain English definitions for the following: (1) a closely held corporation, (2) a personal holding corporation, and (3) a personal service corporation?

Answer:

Generally, a closely held corporation is a corporation that:

  • Has more than 50% of the value of its outstanding stock owned (directly or indirectly) by 5 or fewer individuals at any time during the last half of the tax year; and
  • Is not a personal service corporation.

The definitions for the terms "directly or indirectly" and "individual" are in Publication 542, Corporations.

A closely held corporation is subject to additional limitations in the tax treatment of items such as passive activity losses, at-risk rules and compensation paid to corporate officers.

A personal holding company:

A corporation will be considered a personal holding company if it meets both the Income Test and the Stock Ownership Test.

  • The Income Test states that at least 60% of the corporation's adjusted ordinary gross income for the tax year is from dividends, interest, rent, royalties and annuities.
  • The Stock Ownership Test states that at any time during the last half of the tax year, 5 or fewer individuals must directly or indirectly own more than 50% in value of the corporation's outstanding stock.

Refer to the Instructions for Schedule PH (Form 1120) (.pdf), U.S. Personal Holding Company (PHC) Tax, for more information and a list of exceptions.

A personal service corporation:

  • Its principal activity is performing personal services during the "testing period."
  • Its employee-owners substantially perform the services. A corporation meets this requirement if more than 20% of the corporation’s compensation cost for its activities of performing personal services is for personal services its employee-owners perform during the testing period.
  • Its employee-owners own more than 10% of the fair market value of its outstanding stock.
  • Personal services include, but are not limited to, any activity performed in the fields of accounting, actuarial science, architecture, consulting, engineering, health (including veterinary services), law firms and the performing arts.

Generally, the testing period for any tax year is the prior tax year. If the corporation has just been formed, the testing period begins on the first day of its tax year and ends on the earlier of:

A. The last day of its tax year, or
B. The last day of the calendar year in which its tax year begins.


Category: Small Business, Self-Employed, Other Business
Subcategory: Entities: Sole Proprietor, Partnership, Limited Liability Company/Partnership (LLC/LLP), Corporation, Subchapter S Corporation

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The OMB number for this study is 1545-1432.
If you have any comments regarding this study, please write to:
IRS, Tax Products Coordinating Committee
SE:W:CAR:MP:T:T:SP
1111 Constitution Avenue NW
Washington, DC 20224