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Instructions for Schedule M-3 (Form 1120)
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2006
Department of the Treasury
Internal Revenue Service
Instructions for
Schedule M-3 (Form 1120)
Net Income (Loss) Reconciliation for Corporations With Total Assets of
$10 Million or More
Section references are to the Internal
Revenue Code unless otherwise noted.
General Instructions
Purpose of Schedule
Schedule M-3 Part I asks certain
questions about the corporation’s
financial statements and reconciles
financial statement worldwide net income
(loss) for the corporation (or consolidated
financial statement group, if applicable),
as reported on Schedule M-3, Part I, line
4, to net income (loss) per the income
statement of the corporation for U.S.
taxable income purposes, as reported on
Schedule M-3, Part I, line 11.
Schedule M-3 Parts II and III reconcile
financial statement net income (loss) for
the U.S. corporation (or consolidated tax
group, if applicable) as reported on
Schedule M-3, Part I, line 11, to taxable
income on Form 1120, page 1, line 28.
What’s New
• The instructions clarify that Schedule
M-3 applies equally to a corporation filing
a non-consolidated return and to a
corporate group filing a consolidated
return and is required for all Form 1120
returns for which the $10 million or more
end-of-year asset threshold is met.
• Corporations that have a direct or
indirect ownership interest in a
partnership may have certain reporting
responsibilities as a “reportable entity
partner.” See Reportable Entity Partner
Reporting Responsibilities on page 3.
• For tax years ending in December 2006
or later, if the parent corporation of a U.S.
consolidated tax group files Form 1120
and any member of the group files Form
1120-L, U.S. Life Insurance Company
Income Tax Return, or Form 1120-PC, U.
S. Property and Casualty Insurance
Company Income Tax Return, each
member of the mixed group must file
either Schedule M-3 (Form 1120), new
Schedule M-3 (Form 1120-L), or new
Schedule M-3 (Form 1120-PC), as
appropriate. See Who Must File, on this
page. Mixed groups must also file new
Form 8916, Reconciliation of Schedule
M-3 Taxable Income with Tax Return
Taxable Income for Mixed Groups.
• The section, Completion of Schedule
M-3 and Certain Allocations, Limitations,
and Carryovers, discusses information
equally applicable to non-consolidated
returns, consolidated returns without
insurance companies, and mixed group
returns with an insurance company.
• In Part I, new checkboxes were added
for (1) non-consolidated return, (2)
consolidated return (Form 1120 only), (3)
mixed 1120/L/PC group, and (4) dormant
subsidiaries schedule attached.
• The instructions for Part I, line 7 clarify
the treatment of certain disregarded
entities.
• The instructions for Part I, lines 9 and
10, clarify the reporting of income
statement period adjustments that may be
required for an insurance company
subsidiary acquired or merged.
• Part I, line 10, includes (a)
intercompany dividend adjustments, (b)
other statutory accounting adjustments,
and (c) other adjustments to reconcile to
the amount on line 11. The instructions
clarify what should be reported on each
line.
• In Parts II and III, new checkboxes (5)
through (7) were added to indicate
whether the Schedule M-3 is for the (5)
mixed 1120/L/PC group, (6)
subconsolidated 1120 group, or (7)
sub-consolidated 1120 eliminations.
• The instructions for Parts II and III
clarify that a schedule or explanation may
be attached to any line even if none is
required.
• Part II, line 17, Cost of Goods Sold,
requires new Form 8916-A, Reconciliation
of Cost of Goods Sold Reported on
Schedule M-3, to be attached.
• The instructions for Part II, line 17, Cost
of Goods Sold, have been revised to
include two additional exceptions for
amounts (from Part II, lines 18 and 21)
that are not reportable on Part II, line 17.
• Part II, line 24, Capital loss limitation
and carryforward used, is a combination
of Part II, line 24 and Part II, line 25, of
the 2005 Schedule M-3 (Form 1120).
• Part II, lines 29a, 29b, and 29c were
added to facilitate mixed groups
(insurance and non-insurance
companies) consolidations.
Where To File
If the corporation is required to file (or
voluntarily files) Schedule M-3 (Form
1120), the corporation must file Form
1120 and all attachments and schedules,
Cat. No. 38103Y
including Schedule M-3 (Form 1120), with
the Internal Revenue Service Center,
Ogden, UT 84201-0012.
Who Must File
• Any domestic corporation or group of
corporations required to file Form 1120,
U.S. Corporation Income Tax Return, that
reports on Schedule L of Form 1120 total
assets at the end of the corporation’s tax
year that equal or exceed $10 million
must complete and file Schedule M-3
instead of Schedule M-1, Reconciliation
of Income (Loss) per Books With Income
per Return.
• A corporation filing a non-consolidated
Form 1120, U.S. Corporation Income Tax
Return, that reports on Schedule L for
Form 1120 total assets that equal or
exceed $10 million must complete and file
Schedule M-3 instead of Schedule M-1
and must check box (1) Non-consolidated
return, at the top of Page 1 of Schedule
M-3.
• Any U.S. consolidated tax group
consisting of a U.S. parent corporation
and additional includible corporations
listed on Form 851, Affiliations Schedule,
required to file Form 1120, that reports on
Schedule L of Form 1120 total
consolidated assets at the end of the tax
year that equal or exceed $10 million
must complete and file Schedule M-3
instead of Schedule M-1, and must check
box (2) consolidated return (Form 1120
only), or box (3) Mixed 1120/L/PC group,
as applicable, at the top of Page 1 of
Schedule M-3.
A U.S. corporation filing Form 1120
that is not required to file Schedule M-3
may voluntarily file Schedule M-3 instead
of Schedule M-1. A corporation filing
Schedule M-3 must check the box on
Form 1120, page 1, item A, indicating that
Schedule M-3 is attached, whether
required or voluntary. A corporation filing
Schedule M-3 must not file Schedule M-1.
If the parent corporation of a U.S.
consolidated tax group files Form 1120
and files Schedule M-3, all members of
the group must file Schedule M-3.
However, if the parent corporation of a
U.S. consolidated tax group files Form
1120 and any member of the group files
Form 1120-PC, U.S. Property and
Casualty Insurance Company Income Tax
Return, or Form 1120-L, U.S. Life
Insurance Company Income Tax Return,
Page 2 of 21
Instructions for Schedule M-3 (Form 1120)
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that member must file Schedule M-3
(Form 1120-PC) or Schedule M-3 (Form
1120-L), respectively, and the group must
comply with the mixed group consolidated
Schedule M-3 reporting described under
Schedule M-3 Consolidation for Mixed
Groups (1120/L/PC) on page 4. A mixed
group must also file Form 8916,
Reconciliation of Schedule M-3 Taxable
Income with Tax Return Taxable Income
for Mixed Groups.
If the parent company of a U.S.
consolidated tax group files Form 1120
and any member of the group files Form
1120-PC or Form 1120-L and the
consolidated Schedule L reported in the
return includes the assets of all of the
companies (the insurance companies as
well as the non-insurance companies), in
order to determine if the group meets the
$10 million threshold test for the
requirement to file Schedule M-3, use the
amount of total assets reported on
Schedule L of the consolidated return. If
the parent company of a U.S.
consolidated tax group files Form 1120
and any member of the group files Form
1120-PC or Form 1120-L and the
consolidated Schedule L reported in the
return does not include the assets of one
or more of the insurance companies in
the U.S. consolidated tax group, in order
to determine if the group meets the $10
million threshold test, use the sum of the
amount of total assets reported on the
consolidated Schedule L plus the
amounts of all assets reported on Forms
1120-PC and 1120-L that are included in
the consolidated return but not included
on the consolidated Schedule L.
Note. Schedule M-3 is not required for
taxpayers filing Form 1120-REIT, U.S.
Income Tax Return for Real Estate
Investment Trusts, Form 1120-F, U.S.
Income Tax Return of a Foreign
Corporation, Form 1120-H, U.S. Income
Tax Return for Homeowners
Associations, and Form 1120-SF, U.S.
Income Tax Return for Settlement Funds.
There is a unique Schedule M-3 for
taxpayers required to file Form 1065, U.S.
Return of Partnership Income, Form
1120S, U.S. Income Tax Return for an S
Corporation, and for Forms 1120-PC or
1120-L.
Cooperatives filing Form 1120-C, U.S.
Income Tax Return for Cooperative
Associations, that report end of year
assets of $10 million or more must
complete Schedule M-3 (Form 1120)
instead of Schedule M-1.
For insurance companies included in
the consolidated U.S. federal income tax
return, see the instructions for Part I, lines
10 and 11 and Part II, line 7, for guidance
on Schedule M-3 reporting of
intercompany dividends and statutory
accounting adjustments.
Example 1.
1. U.S. corporation A owns U.S.
subsidiary B and foreign subsidiary F. For
its 2006 tax year, A prepares
consolidated financial statements with B
and F that report total assets of $12
million. A files a consolidated U.S. federal
income tax return with B and reports total
consolidated assets on Schedule L of $8
million. A’s U.S. consolidated tax group is
not required to file Schedule M-3 for the
2006 tax year.
2. U.S. corporation C owns U.S.
subsidiary D. For its 2006 tax year, C
prepares consolidated financial
statements with D, but C and D file
separate U.S. federal income tax returns.
The consolidated accrual basis financial
statements for C and D report total assets
at the end of the tax year of $12 million
after intercompany eliminations. C reports
separate company total year-end assets
on its Schedule L of $7 million. D reports
separate company total year-end assets
on its Schedule L of $6 million. Neither C
nor D is required to file Schedule M-3 for
the 2006 tax year.
3. Foreign corporation A owns 100
percent of both U.S. corporation B and
U.S. corporation C. C owns 100 percent
of U.S. corporation D. For its 2006 tax
year, A prepares a consolidated
worldwide financial statement for the
ABCD consolidated group. The ABCD
consolidated financial statement reports
total year-end assets of $25 million. A is
not required to file a U.S. federal income
tax return. B files a separate U.S. federal
income tax return and reports separate
company total year-end assets on its
Schedule L of $12 million. C files a
consolidated U.S. federal income tax
return with D and, after eliminating
intercompany transactions between C
and D, reports consolidated total year-end
assets on Schedule L of $8 million. B is
required to file Schedule M-3 because its
total year-end assets reported on
Schedule L exceed $10 million. The CD
U.S. consolidated tax group is not
required to file Schedule M-3 because its
total year-end assets do not exceed $10
million.
Other Issues Affecting
Schedule M-3 Filing
Requirements
If a corporation was required to file
Schedule M-3 for the preceding tax year,
but reports on Form 1120, page 1, Item
D, or on Schedule L of Form 1120 total
consolidated assets at the end of the
current tax year of less than $10 million,
the corporation is not required to file
Schedule M-3 for the current tax year.
The corporation may either (a) file
Schedule M-3, or (b) file Schedule M-1,
for the current tax year. However, if the
corporation chooses to file Schedule M-1
for the current tax year, and for a
subsequent tax year the corporation is
required to file Schedule M-3, the
corporation must complete Schedule M-3
in its entirety (Part I and all columns in
Parts II and III) for that subsequent tax
year.
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In the case of a U.S. consolidated tax
group, total assets at the end of the tax
year must be determined based on the
total year-end assets of all includible
corporations listed on Form 851, net of
eliminations for intercompany
transactions and balances between the
includible corporations. In addition, for
purposes of determining whether the
corporation (or U.S. consolidated tax
group) has total assets at the end of the
current tax year of $10 million or more,
the corporation’s total consolidated assets
must be determined on an overall accrual
method of accounting unless both of the
following apply: (a) the tax returns of all
includible corporations in the U.S.
consolidated tax group are prepared
using an overall cash method of
accounting, and (b) no includible
corporation in the U.S. consolidated tax
group prepares or is included in financial
statements prepared on an accrual basis.
Other Form 1120
Schedules Affected by
Schedule M-3
Requirements
Report on Schedules L, M-2, and Form
1120, page 1, amounts for the U.S.
corporation or, if applicable, the U.S.
consolidated tax group.
Schedule L
Total assets shown on Schedule L, line
15, column (d) (or, in the case of some
consolidated mixed groups with a Form
1120 parent and an insurance subsidiary,
the assets reported on Form 1120, page
1, item D), must equal the total assets of
the corporation (or, in the case of a U.S.
consolidated tax group, the total assets of
all members of the group listed on Form
851) as of the last day of the tax year,
and must be the same total assets
reported by the corporation (or by each
member of the U.S. consolidated tax
group) in the financial statements, if any,
used for Schedule M-3. If the corporation
prepares financial statements, Schedule L
must equal the sum of the financial
statement total assets for each
corporation listed on Form 851 and
included in the consolidated U.S. federal
income tax return (includible corporation)
net of eliminations for intercompany
transactions between includible
corporations. If the corporation does not
prepare financial statements, Schedule L
must be based on the corporation’s books
and records. The Schedule L balance
sheet may show tax-basis balance sheet
amounts if the corporation is allowed to
use books and records for Schedule M-3
and the corporation’s books and records
reflect only tax-basis amounts.
For purposes of measuring total assets
at the end of the year, assets may not be
netted or offset against liabilities. In
addition, total assets may not be reported
as a negative amount.
Instructions for Schedule M-3 (Form 1120)
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Instructions for Schedule M-3 (Form 1120)
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Schedule M-2
The amount shown on Schedule M-2, line
2, Net income (loss) per books, must
equal the amount shown on Schedule
M-3, Part I, line 11. Schedule M-2 must
reflect activity only of corporations
included in the consolidated U.S. federal
income tax return.
Consolidated Return
(Form 1120, Page 1)
Report on Form 1120, page 1, each item
of income, gain, loss, expense, or
deduction net of elimination entries for
intercompany transactions between
includible corporations. The corporation
must not report as dividends on Form
1120, Schedule C, any amounts received
from an includible corporation. In general,
dividends received from an includible
corporation must be eliminated in
consolidation rather than offset by the
dividends-received deduction.
Entity Considerations for
Schedule M-3
For purposes of Schedule M-3,
references to the classification of an entity
(for example, as a corporation, a
partnership, or a trust) are references to
the treatment of the entity for U.S. federal
income tax purposes. An entity that
generally is disregarded as separate from
its owner for U.S. federal income tax
purposes (disregarded entity) must not be
separately reported on Schedule M-3
except, if required, on Part I, line 7. On
Schedule M-3, Parts II and III, any item of
income, gain, loss, deduction, or credit of
a disregarded entity must be reported as
an item of its owner. In particular, the
income or loss of a disregarded entity
must not be reported on Part II, lines 9,
10, or 11 as from a separate partnership
or other pass-through. The financial
statement income or loss of a disregarded
entity is included on Part I, line 7, only if
its financial statement income or loss is
included on Part I, line 11, but not on Part
I, line 4.
Reportable Entity Partner
Reporting Responsibilities
A reportable entity partner with respect to
a partnership filing Form 1065 is an entity
that (1) owns or is deemed to own,
directly or indirectly, under these
instructions a 50 percent or greater
interest in the income, loss or capital of
the partnership on any day of the tax year
on or after June 30, 2006, and (2) was
required to complete Schedule M-3 on its
most recently filed US federal income tax
return or return of income filed prior to
that day.
For the purposes of these instructions:
(1) the parent corporation of a
consolidated tax group is deemed to own
all corporate and partnership interests
owned or deemed to be owned under
these instructions by any member of the
tax consolidated group; (2) the owner of a
disregarded entity is deemed to own all
corporate and partnership interests
owned or deemed to be owned under
these instructions by the disregarded
entity; (3) the owner of 50 percent or
more of a corporation by vote on any day
of the corporation tax year is deemed to
own all corporate and partnership
interests owned or deemed to be owned
under these instructions by the
corporation during the corporation tax
year; (4) the owner of 50 percent or more
of partnership income, loss, or capital on
any day of the partnership tax year is
deemed to own all corporate and
partnership interests owned or deemed to
be owned under these instructions by the
partnership during the partnership tax
year; and (5) the beneficial owner of 50
percent or more of the beneficial interest
of a trust or nominee arrangement on any
day of the trust or nominee arrangement
tax year is deemed to own all corporate
and partnership interests owned or
deemed to be owned under these
instructions by the trust or nominee
arrangement.
A reportable entity partner with respect
to a partnership (as defined above) must
report the following to the partnership on
September 15, 2006, or if later, within 30
days of first becoming a reportable entity
partner and, after first reporting to the
partnership under these instructions,
thereafter within 30 days of the date of
any change in the interest it owns or is
deemed to own, directly or indirectly,
under these instructions, in the
partnership: (1) its name, (2) its mailing
address, (3) its taxpayer identification
number (TIN or EIN) if applicable, (4) its
entity or organization type, (5) the state or
country in which it is organized, (6) the
date on which it first became a reportable
entity partner on or after June 30, 2006,
(7) the date with respect to which it is
reporting a change in its ownership
interest in the partnership, if applicable,
(8) the interest in the partnership it owns
or is deemed to own in the partnership,
directly or indirectly (as defined under
these instructions) as of the date with
respect to which it is reporting, and (9)
any change in that interest as of the date
with respect to which it is reporting.
Example 2.
1. A, an LLC filing a Form 1065 for
2006, is owned 50 percent by U.S.
corporation Z. A owns 50 percent of B, C,
D, and E, which are also LLCs filing a
Form 1065 for calendar year 2006. Z was
first required to complete Schedule M-3
(Form 1120) for its corporate tax year
ended December 31, 2005, and filed its
Form 1120 with Schedule M-3 for 2005
on September 15, 2006. As of September
16, 2006, Z was a reportable entity
partner with respect to A and, through A,
with respect to B, C, D, and E. On
October 5, 2006, Z reports to A, B, C, D,
and E, as it is required to do within 30
days of September 16, that Z is a
reportable entity partner directly owning
(with respect to A) or deemed to own
indirectly (with respect to B, C, D, and E)
Instructions for Schedule M-3 (Form 1120)
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a 50 percent interest. Therefore, because
Z was a reportable entity partner for 2006,
each of A, B, C, D, and E is required to
complete Schedule M-3 (Form 1065) for
2006, regardless of whether they would
otherwise be required to complete
Schedule M-3 for that year.
2. Same ownership fact as in item 1,
above, but on September 15, 2005, Z
filed a tax return on Form 1120 and was
required to complete Schedule M-3 for
the tax year ending December 31, 2004.
Therefore, Z is a reportable entity partner
of K as of June 30, 2006. On September
15, 2006, P reports to A, B, C, D, and E,
as it is required to do, that Z is a
reportable entity partner as of June 30,
2006, directly owning (with respect to A)
or deemed to own indirectly (with respect
to B, C, D, and E) a 50 percent interest.
Therefore, because Z was a reportable
entity partner for 2006, each of A, B, C, D,
and E is required to complete Schedule
M-3 (Form 1065) for 2006, regardless of
whether they would otherwise be required
to complete Schedule M-3 for that year.
3. P, a US corporation, is the parent
of a financial consolidation group with 50
domestic subsidiaries DS1 through DS50
and 50 foreign subsidiaries FS1 through
FS50, all 100 percent owned on June 30,
2006. On September 15, 2005, P filed a
consolidated tax return on Form 1120 and
was required to complete Schedule M-3
for the tax year ending December 31,
2004. On June 30, 2006, DS1, DS2, DS3,
FS1, and FS2 are each 10 percent
partners in partnership K which files Form
1065 for the tax year ending December
31, 2006. P is deemed to own, directly or
indirectly (under these instructions) all
corporate and partnership interests of
DS1, DS2, DS3, as the parent of the tax
consolidation group and therefore is
deemed to own 30 percent of K on June
30, 2006. P is deemed to own, directly or
indirectly, (under these instructions) all
corporate and partnership interests of
FS1 and FS2 as the owner of 50 percent
or more of each corporation by vote and
therefore is deemed to own 20 percent of
K on June 30, 2006. P is therefore
deemed to own 50 percent of K on June
30, 2006. P was required to complete the
Schedule M-3 (Form 1120) with its 2004
Form 1120 filed September 15, 2005, its
most recently filed U.S. federal income
tax return filed prior to June 30, 2006. P
owns or is deemed to own, directly or
indirectly, (under these instructions) 50
percent or more of K on June 30, 2006,
and was required to complete Schedule
M-3 on its most recently filed U.S. income
tax return filed prior to that date.
Therefore, P is a reportable entity partner
of K as of June 30, 2006. On September
15, 2006, P reports to K, as it is required
to do, that P is a reportable entity partner
as of June 30, 2006, deemed to own
(under these instructions) a 50 percent
interest in K. K is therefore required to
complete Schedule M-3 when it files its
Form 1065 for its tax year ending
December 31, 2006.
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Instructions for Schedule M-3 (Form 1120)
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Consolidated Schedule
M-3 Versus Consolidating
Schedules M-3 for Form
1120 Groups
A consolidated tax return group with a
parent corporation that files a Form 1120
is a mixed group if any member is a life
insurance company (files using Form
1120-L) or a property and casualty
insurance company (files using 1120-PC).
See Schedule M-3 Consolidation for
Mixed Groups (1120/L/PC) below.
A U.S. consolidated tax group must file
a consolidated Schedule M-3. Parts I, II
and III of the consolidated Schedule M-3
must reflect the activity of the entire U.S.
consolidated tax group. The parent
corporation also must complete Parts II
and III of a separate Schedule M-3 to
reflect the parent’s own activity. In
addition, Parts II and III of a separate
Schedule M-3 must be completed by
each includible corporation to reflect the
activity of that includible corporation.
Lastly, it generally will be necessary to
complete Parts II and III of a separate
Schedule M-3 for consolidation
eliminations.
If a U.S. consolidated tax group that is
not a mixed group consists of four
includible corporations (the parent and
three subsidiaries) all filing Form 1120,
the U.S. consolidated tax group must
complete six Schedules M-3 as follows:
(a) one consolidated Schedule M-3 with
Parts I, II, and III completed to reflect the
activity of the entire U.S. consolidated tax
group; (b) Parts II and III of a separate
Schedule M-3 for each of the four
includible corporations to reflect the
activity of each includible corporation; and
(c) Parts II and III of a separate Schedule
M-3 to eliminate intercompany
transactions between includible
corporations and to include limitations on
deductions (e.g., charitable contribution
limitations and capital loss limitations) and
carryover amounts (e.g., charitable
contribution carryovers and capital loss
carryovers). See the discussion,
Completion of Schedule M-3 and Certain
Allocations, Limitations, and Carryovers.
Note. On Part II and Part III, indicate on
the line after the common parent’s name
whether the Schedule M-3 is for the: (1)
consolidated group; (2) parent
corporation; (3) consolidation
eliminations; or (4) subsidiary corporation,
by checking the appropriate box.
Schedule M-3 Consolidation for
Mixed Groups (1120/L/PC)
Special Schedule M-3 consolidation rules
apply to a mixed group, that is, a
consolidated tax group that (a) includes
both a corporation that is an insurance
company and a corporation that is not an
insurance company, or (b) includes both a
life insurance company and a property
and casualty insurance company, or (c)
includes a life insurance company, a
property and casualty insurance
company, and a corporation that is not an
insurance company.
Mixed group consolidation for
Schedule M-3, Parts II and III, requires (a)
subgroup sub-consolidation of the 1120
subgroup, the 1120-PC subgroup, and
the 1120-L subgroup, each with its own
sub-consolidated Schedule M-3, Parts II
and III, and (b) consolidation of the
subgroup sub-consolidation totals on a
consolidated Schedule M-3, Part II that
ties to a consolidated Schedule M-3, Part
I and a consolidated Form 8916,
Reconciliation of Schedule M-3 Taxable
Income with Tax Return Taxable Income
for Mixed Groups.
In addition to one Schedule M-3, Part
II and one Schedule M-3, Part III for each
corporation in the three subgroup
sub-consolidations, there will be generally
a total of six additional Schedule M-3,
Parts II and six additional Schedule M-3,
Parts III for the subgroup
sub-consolidations. Specifically, there
must be one Part II and one Part III for
each subgroup’s sub-consolidated
amounts and one Part II and one Part III
for each subgroup’s sub-consolidation
eliminations amounts.
At the mixed group consolidated level,
there must be a consolidated Schedule
M-3, Part II, and, if applicable, a Part II for
consolidation eliminations not includable
in the subgroup eliminations. At the
consolidated level, there must also be a
consolidated Schedule M-3, Part I and a
consolidated Form 8916. For a mixed
group, there is no Schedule M-3, Part III
at the consolidated level.
The corporation must check the
applicable mixed group checkboxes on all
Schedules M-3, Parts I, II, and III, as
discussed below.
Subgroup Sub-Consolidation: 1120
Subgroup, 1120-PC Subgroup, and
1120-L Subgroup
A subgroup Schedule M-3, Parts II and III,
sub-consolidation must be prepared with
all necessary eliminations within the
subgroup for each of the three possible
subgroups that are in fact present: one
subgroup for those corporations reporting
on Form 1120; one subgroup for those
corporations reporting on Form 1120-PC;
and one subgroup for those reporting on
Form 1120-L. The parent corporation is
included in the subgroup that corresponds
to the form on which it reports and the
entire consolidated group files. For
example, in the case of a Form 1120
parent and Form 1120 consolidated
group, the parent is included in the Form
1120 subgroup sub-consolidation. Each
subgroup uses its own Schedule M-3
form (1120, 1120-PC, 1120-L), Parts II
and III, for each corporation within the
subgroup and for the subgroup
sub-consolidation and the subgroup
eliminations.
The three subgroup sub-consolidation
taxable income calculations on Schedule
-4-
M-3 must follow the separate return
requirements of the regulation under
Section 1502 and all other applicable
regulations taking into account the
amounts separately reported on Form
8916. Capital loss limitation and
carryforward used and charitable
deduction limitation and carryforward
used are not taken into account in the
determination of the three subgroup
sub-consolidated taxable incomes on
Schedule M-3, but are reflected on Form
8916 and in the calculation of the life/
non-life loss limitation and carryforward
used. See, Life/Non-Life Loss Limitation
and Carryforward Used Calculations, on
page 5.
The reconciliation totals for book,
temporary difference, permanent
difference, and taxable income for each
subgroup are reported on Forms 1120,
1120-PC, or 1120-L, as applicable,
Schedule M-3, Part II, line 29a, columns
(a), (b), (c), and (d), and equal the sum of
the line amounts on Part II, lines 26
through 28. For a mixed group, Schedule
M-3, Part II, lines 29b, 29c, and 30 are
blank on the Forms 1120, 1120-PC, or
1120-L, as applicable, for the separate
corporations (parent and subsidiary) and
for the three subgroup
sub-consolidations.
Reconciliation of Mixed Group
Subgroup Sub-Consolidation
Amounts to Schedule M-3 Part I,
line 11, and to Tax Return Taxable
Income
At the consolidated level, use the
Schedule M-3 (Forms 1120, 1120-PC, or
1120-L), Parts I and II, that matches the
form on which the parent corporation
reports and the entire consolidated group
files. For a mixed group, the consolidated
Schedule M-3, Part II, lines 29a, 29b, and
29c amounts are the roll-ups of the
applicable amounts from the three
subgroup sub-consolidation Part II, line
29a amounts. (If a consolidated level Part
II for consolidation eliminations not
includable in the subgroup eliminations is
applicable, the roll-up amounts must be
adjusted by the applicable elimination
amounts.) The consolidated Schedule
M-3, Part II, line 30 amounts are the sum
of the applicable amounts on the
consolidated Part II, lines 29a, 29b, and
29c. For a mixed group, the consolidated
Part II, lines 1 through 28 are blank and
no consolidated Part III is required to be
completed.
For mixed groups, the consolidated
Part II line 30 column (a) must equal Part
I, line 11, with appropriate adjustments for
statutory accounting requirements
reflected on Part I, line 10. The
consolidated taxable income indicated on
Part II, line 30, column (d), must equal the
amount shown on Form 8916, line 1.
Form 8916, line 8 must equal taxable
income reported on the tax return.
Instructions for Schedule M-3 (Form 1120)
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Instructions for Schedule M-3 (Form 1120)
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Completion of Mixed Group
Checkboxes for Schedule M-3 Part
II and Part III
Note. The following discussion of
checkboxes will assume that the 1120
subgroup includes the corporate parent of
the mixed group.
Forms 1120, 1120-PC, and 1120-L,
Schedule M-3, Parts II and III, each have
a checkbox (5) at the top indicating a
mixed group. Checkbox (5) and one or
more other applicable checkboxes must
be checked.
For example, an 1120 parent
corporation included in the 1120
subgroup must check Schedule M-3
(Form 1120), Parts II and III, box (2)
Parent corporation and box (5) Mixed
1120/L/PC group. An 1120 subsidiary
corporation within the 1120 subgroup
must check Schedule M-3 (Form 1120),
Parts II and III, box (4) Subsidiary
corporation and box (5) Mixed 1120/L/PC
group. An 1120-PC subsidiary corporation
within the 1120-PC subgroup must check
Schedule M-3 (Form 1120-PC), Parts II
and III, box (4) Subsidiary corporation and
box (5) Mixed 1120/L/PC group. An
1120-L subsidiary corporation within the
1120-L subgroup must check Schedule
M-3 (Form 1120-L), Parts II and III, box
(4) Subsidiary corporation and box (5)
Mixed 1120/L/PC group.
The 1120 subgroup sub-consolidation
Schedule M-3 (Form 1120), Parts II and
III, must be indicated by checking box (5)
Mixed 1120/L/PC group and box (6) 1120
group for the sub-consolidation and by
checking box (5) Mixed 1120/L/PC group,
and box (7) 1120 eliminations for the
eliminations. The 1120-PC subgroup
subconsolidation Form 1120-PC
Schedule M-3, Parts II and III, must be
indicated by checking box (5) Mixed
1120/L/PC group and box (6) 1120-PC
group for the sub-consolidation and by
checking box (5) Mixed 1120/L/PC group,
and box (7) 1120-PC eliminations for the
eliminations. The 1120-L subgroup
sub-consolidation Schedule M-3 (Form
1120-L), Parts II and III, must be indicated
by checking box (5) Mixed 1120/L/PC
group and box (6) 1120-L group for the
sub-consolidation and by checking box
(5) Mixed 1120/L/PC group, and box (7)
1120-L eliminations for the eliminations.
A mixed group with a Form 1120
parent corporation completes a
consolidated level Schedule M-3 (Form
1120), Parts I and II and a consolidated
Form 8916. The mixed group
consolidated Schedule M-3, Part II, must
be indicated by checking box (1)
consolidated group and box (5) Mixed
1120/L/PC group. (If a consolidated level
Part II for consolidation eliminations not
includable in the subgroup eliminations is
applicable, that Part II must be indicated
by checking box (3) Consolidated
eliminations and box (5) Mixed 1120/L/PC
group.)
Life/Non-Life Loss Limitation and
Carryforward Used Calculations
The applicable life/non-life loss limitation
and all carryforward used calculations are
made using the amounts determined for
taxable income in the three subgroup
subconsolidations and other applicable
amounts separately reported on Form
8916. The calculated life/non-life loss
limitation or carryforward used amounts, if
any, are not entered on Schedule M-3.
The calculated amounts, if any, are
entered on Form 8916.
Mixed Group With 1120 Parent:
Transition Rule For Schedule M-3,
Parts II and III, Columns (a) and (d)
For Tax Years Ending December
2006 Through November 2007
For tax years ending December 2006
through November 2007, if a mixed group
has an 1120 parent that is required to
complete Parts II and III, columns (a) and
(d), all 1120 subsidiaries must complete
Parts II and III, columns (a) and (d).
However, all 1120-PC and 1120-L
subsidiaries included in the mixed group
tax consolidated group have the option of
completing columns (a) and (d) for all of
Parts II and III, or of completing columns
(a) and (d) only for Part II, line 29a, to
show the net contribution of the
subsidiary to the consolidated group total
Part II, line 30, columns (a) and (d) shown
on the 1120 subgroup sub-consolidation
Part II. The 1120-PC subgroup
sub-consolidation Part II, line 29a, must
reflect the columns (a) and (d) net total
amounts for all 1120-PC subsidiaries. The
1120-L subgroup sub-consolidation Part
II, line 29a must reflect the columns (a)
and (d) net total amounts for all 1120-L
subsidiaries. The 1120 subgroup
sub-consolidation must reflect the total
net amounts for column (a) and (d) for all
applicable lines. The consolidated level
Part II must reflect the total net amounts
for columns (a) and (d) for all applicable
lines 29a, 29b, 29c, and 30.
Note. All corporations within the mixed
group tax consolidation group are
required to complete columns (b) and (c)
for all applicable lines on all Schedules
M-3 Parts II and III, whether Form 1120,
Form 1120-PC, or Form 1120-L.
Completion of Schedule
M-3 and Certain
Allocations, Limitations,
and Carryovers
A corporation (or any member of a U.S.
consolidated tax group) required to file
Schedule M-3 must complete the form in
its entirety. In particular, a corporation
filing a nonconsolidated return that meets
the filing requirements for Schedule M-3
must complete Parts I, II, and III. Such a
corporation does not check any of the
checkboxes at the top of Parts II and III.
In the case of a U.S. consolidated tax
group, Part I must be completed once, on
the consolidated Schedule M-3, by the
Instructions for Schedule M-3 (Form 1120)
-5-
parent corporation. Parts II and III must
be completed by the parent corporation,
each includible corporation, and a
consolidating eliminations entity.
At the time the Form 1120 is filed, all
applicable questions must be answered
on Part I, all columns must be completed
on Parts II and III, and all numerical data
required by Schedule M-3 must be
provided. Any schedule required to
support a line item on Schedule M-3 must
be attached at the time Schedule M-3 is
filed and must provide the information
required for that line item.
All detailed schedules for Part II and
Part III of Schedule M-3 must be attached
for each separate entity included in the
consolidated Part II and Part III, including
those for the parent company and the
eliminations entity, if applicable. It is not
required that the same supporting
detailed information be presented for Part
II and Part III of the consolidated
Schedule M-3.
If an item attributable to an includible
corporation is not shared by or allocated
to the appropriate member of the group
but is retained in the parent corporation’s
financial statements (or books and
records, if applicable), then the item must
be reported by the parent corporation in
its separate Schedule M-3. For example,
if the parent of a U.S. consolidated tax
group prepares financial statements that
include all members of the U.S.
consolidated tax group and the parent
does not allocate the group’s income tax
expense as reflected in the financial
statements among the members of the
group but retains it in the parent
corporation, the parent corporation must
report on its separate Schedule M-3 the
U.S. consolidated tax group’s income tax
expense as reflected in the financial
statements.
Any adjustments made at the
consolidated group level that are not
attributable to any specific member of the
U.S. consolidated tax group (e.g.,
disallowance of net capital losses,
contribution deduction carryovers, and
limitation of contribution deductions) must
not be reported on the separate
consolidating parent or subsidiary
Schedules M-3 but rather on the
consolidated Schedule M-3 and on the
consolidating Schedule M-3 for
consolidation eliminations (or on Form
8916 in the case of a mixed group).
If an includible corporation has (1) no
activity for the tax year (e.g., because the
corporation is a dormant or inactive
corporation), (2) no amount for the
corporation was included in Part I, line 11,
and (3) the corporation has no amounts to
report on Part II and Part III of Schedule
M-3 for the tax year, the parent
corporation of the U.S. consolidated tax
group may attach to the consolidated
Schedule M-3 a statement that provides
the name and EIN of the includible
corporation in lieu of filing a blank Part II
and Part III of Schedule M-3 for such
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Instructions for Schedule M-3 (Form 1120)
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entity. On Part I, check box (4) Dormant
subsidiaries schedule attached.
Specific Instructions
for Part I
Part I. Financial
Information and Net
Income (Loss)
Reconciliation
When To Complete Part I
Part I must be completed for any tax year
for which the corporation files Schedule
M-3. Check box (1) Non-consolidated
return, (2) Consolidated return (Form
1120 only), (3) Mixed 1120/L/PC group,
and (4) Dormant subsidiaries schedule
attached, as appropriate.
Line 1. Questions Regarding
the Type of Income Statement
Prepared
For Part I, lines 1 through 11, use only the
financial statements of the U.S.
corporation filing the U.S. federal income
tax return (the consolidated financial
statements for the U.S. parent corporation
of a U.S. consolidated tax group). If the
U.S. corporation filing a U.S. federal
income tax return (or the U.S. parent
corporation of a U.S. consolidated tax
group) prepares its own financial
statements but is controlled by another
corporation (U.S. or foreign) that prepares
financial statements that include the U.S.
corporation, the U.S. corporation (or the
U.S. parent corporation of a U.S.
consolidated tax group) must use for its
Schedule M-3, Part I, its own financial
statements and not the financial
statements of the controlling corporation.
If a non-publicly traded U.S. parent
corporation of a U.S. consolidated tax
group prepares financial statements and
that group includes a publicly traded
subsidiary that files financial statements
with the Securities and Exchange
Commission (SEC), the consolidated
financial statements of the parent
corporation are the appropriate financial
statements for purposes of completing
Part I. Do not use any separate company
financial statements that might be
prepared for publicly traded subsidiaries.
If no financial statements are prepared
for a U.S. corporation (or, in the case of a
U.S. consolidated tax group, for the U.S.
parent corporation’s consolidated group)
filing Schedule M-3 (Form 1120), the U.S.
corporation (or the U.S. parent
corporation of a U.S. consolidated tax
group) must enter “No” on questions 1a,
1b, and 1c, skip Part I, lines 2a through
3c, and enter the net income (loss) per
the books and records of the U.S.
corporation (or U.S. consolidated tax
group) on Part I, line 4.
If no financial statements are prepared
for a U.S. corporation (or, in the case of a
U.S. consolidated tax group, for the U.S.
parent corporation’s consolidated group)
filing Schedule M-3 (Form 1120), and the
U.S. corporation is owned by a foreign
corporation that prepares financial
statements that includes the U.S.
corporation (or the U.S. parent
corporation’s consolidated group), the
U.S. corporation (or the U.S. parent
corporation of the U.S. consolidated tax
group) must enter “No” on questions 1a,
1b, and 1c, skip Part I, lines 2a through
3c, and enter the net income (loss) per
the books and records of the U.S.
corporation (or U.S. consolidated tax
group) on Part I, line 4.
Line 2. Questions Regarding
Income Statement Period and
Restatements
Enter the beginning and ending dates on
line 2a for the corporation’s annual
income statement period ending with or
within the current tax year.
The questions on Part I, lines 2b and
2c, regarding income statement
restatements refer to the worldwide
consolidated income statement issued by
the corporation filing the U.S. federal
income tax return (the consolidated
financial statements for the U.S. parent
corporation of a U.S. consolidated tax
group). Answer “Yes” on lines 2b and/or
2c if the corporation’s annual income
statement has been restated for any
reason. Attach a short explanation of the
reasons for the restatement in net income
for each annual income statement period
that is restated, including the original
amount and restated amount of each
annual statement period’s net income.
The attached schedule is not required to
report restatements on an entity-by-entity
basis.
Line 3. Questions Regarding
Publicly Traded Voting
Common Stock
The primary U.S. publicly traded voting
common stock class is the most widely
held or most heavily traded within the
U.S. as determined by the corporation. If
the corporation has more than one class
of publicly traded voting common stock,
attach a list of the classes of publicly
traded voting common stock and the
trading symbol and the nine-digit CUSIP
number of each class.
Line 4. Worldwide Consolidated
Net Income (Loss) per Income
Statement
Report on Part I, line 4, the worldwide
consolidated net income (loss) per the
income statement (or books and records,
if applicable) of the corporation. A
corporation filing a non-consolidated
Form 1120 for itself must report its
worldwide income on Part I, line 4.
In completing Schedule M-3, the
corporation must use financial statement
amounts from the financial statement type
-6-
checked “Yes” on Part I, line 1, or from its
books and records if Part I, line 1c is
checked “No.” If Part I, line 1a, is checked
“Yes,” report on Part I, line 4, the net
income amount reported in the income
statement presented to the SEC on the
corporation’s Form 10-K (the Form 10-K
for the security identified on Part I, line
3b, if applicable).
If a corporation prepares financial
statements, the amount on line 4 must
equal the financial statement net income
(loss) for the income statement period
ending with or within the tax year as
indicated on line 2a.
If the corporation prepares financial
statements and the income statement
period differs from the corporation’s tax
year, the income statement period
indicated on line 2a applies for purposes
of Part I, lines 4 through 8.
If the corporation does not prepare
financial statements, check “No” on Part I,
line 1c, and enter the net income (loss)
per the books and records of the U.S.
corporation or the U.S. consolidated tax
group on Part I, line 4.
Report on Part I, lines 5a through 10,
as instructed below, all adjustment
amounts required to adjust worldwide net
income (loss) reported on this Part I, line
4 (whether from financial statements or
books and records), to net income (loss)
of includible corporations that must be
reported on Part I, line 11.
If a U.S. corporation (a) has net
income (loss) included on Part I, line 4,
and removed on Part I, line 6a or 6b, on
another U.S. corporation’s Schedule M-3,
(b) files its own Form 1120 (separate or
consolidated), (c) does not have a
separate financial statement (certified or
otherwise) of its own, and (d) reports on
Schedule L of its own Form 1120 total
consolidated assets that equal or exceed
$10 million at the end of the corporation’s
tax year, the corporation must answer
questions 1a, 1b, and 1c of Part I as
appropriate for its own Form 1120 and
must report on Part I, line 4, the amount
for the corporation’s net income (loss)
that is removed on Part I, line 6a or 6b, of
the other corporation’s Schedule M-3.
However, if in the circumstances
described immediately above, the
corporation does have separate financial
statements (certified or otherwise) of its
own, independent of the amount of the
corporation’s net income included in Part
I, line 4, of the other U.S. corporation, the
corporation must answer questions 1a,
1b, and 1c of Part I, as appropriate, for its
own Form 1120, based on its own
separate income statement, and must
report on Part I, line 4, the net income
amounts shown on its separate income
statement.
If line 4 includes net income (loss) for
a corporation that files Form 1120-PC or
Form 1120-L, see the instructions for Part
I, line 10, for adjustments that may be
necessary to reconcile financial statement
income to statutory income.
Instructions for Schedule M-3 (Form 1120)
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Instructions for Schedule M-3 (Form 1120)
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Line 5. Net Income (Loss) of
Nonincludible Foreign Entities
Remove the financial statement net
income (line 5a) or loss (line 5b) of each
foreign entity that is included in the
consolidated financial statement group
and is not an includible corporation in the
U.S. consolidated tax group
(nonincludible foreign entity). In addition,
on Part I, line 8, adjust for consolidation
eliminations and correct for minority
interest and intercompany dividends
between any nonincludible foreign entity
and any includible corporation. Do not
remove in Part I the financial statement
net income (loss) of any nonincludible
foreign entity accounted for in the
financial statements on the equity
method.
Attach a supporting schedule that
provides the name, EIN (if applicable),
and net income (loss) per the financial
statement or books and records included
on line 4 that is removed on this line 5 for
each separate nonincludible foreign
entity. The amounts of income (loss)
detailed on the supporting schedule
should be reported for each separate
nonincludible foreign entity without regard
to the effect of consolidation or
elimination entries. If there are
consolidation or elimination entries
relating to nonincludible foreign entities
whose income (loss) is reported on the
attached schedule that are not reportable
on Part I, line 8, the net amounts of all
such consolidation and elimination entries
must be reported on a separate line on
the attached schedule, so that the
separate financial accounting income
(loss) of each nonincludible foreign entity
remains separately stated.
For example, if the net income (after
consolidation and elimination entries) of a
nonincludible foreign sub-consolidated
group is being reported on line 5a, the
attached supporting schedule should
report the income (loss) of each separate
nonincludible foreign legal entity from
each such entity’s own financial
accounting net income statement or
books and records, and any consolidation
or elimination entries (for intercompany
dividends, minority interests, etc.) not
reportable on Part I, line 8, should be
reported on the attached supporting
schedule as a net amount on a line
separate and apart from lines that report
each nonincludible foreign entity’s
separate net income (loss).
Line 6. Net Income (Loss) of
Nonincludible U.S. Entities
Remove the financial statement net
income (line 6a) or loss (line 6b) of each
U.S. entity that is included in the
consolidated financial statement group
and is not an includible corporation in the
U.S. consolidated tax group
(nonincludible U.S. entity). In addition, on
Part I, line 8, adjust for consolidation
eliminations and correct for minority
interest and intercompany dividends
between any nonincludible U.S. entity and
any includible corporation. Do not remove
in Part I the financial statement net
income (loss) of any nonincludible U.S.
entity accounted for in the financial
statements on the equity method.
Attach a supporting schedule that
provides the name, EIN, and net income
(loss) per the financial statement or books
and records included on line 4 that is
removed on this line 6 for each separate
nonincludible U.S. entity. The amounts of
income (loss) detailed on the supporting
schedule should be reported for each
separate nonincludible U.S. entity without
regard to the effect of consolidation or
elimination entries. If there are
consolidation or elimination entries
relating to nonincludible U.S. entities
whose income (loss) is reported on the
attached schedule that are not reportable
on Part I, line 8, the net amounts of all
such consolidation and elimination entries
must be reported on a separate line on
the attached schedule, so that the
separate financial accounting income
(loss) of each nonincludible U.S. entity
remains separately stated. For example, if
the net income (after consolidation and
elimination entries) of a nonincludible
U.S. sub-consolidated group is being
reported on line 6a, the attached
supporting schedule should report the
income (loss) of each separate
nonincludible U.S. legal entity from each
such entity’s own financial accounting net
income statement or books and records,
and any consolidation or elimination
entries (for intercompany dividends,
minority interests, etc.) not reportable on
Part I, line 8, should be reported on the
attached supporting schedule as a net
amount on a line separate and apart from
lines that report each nonincludible U.S.
entity’s separate net income (loss).
Line 7. Net Income (Loss) of
Other Includible Entities
Include the financial statement net
income (line 7a) or loss (line 7b) of each
corporation includible in the U.S.
consolidated tax group that is not
included in the consolidated financial
statement group (other includible
corporation) and therefore not included in
the income reported on Part I line 4. Also
include on this line 7 the financial
statement income of any disregarded
entity that is not included in the income
reported on Part I, line 4, but is included
in Part I, line 11 (other includible entities).
In addition, on Part I, line 8, adjust for
consolidation eliminations and correct for
minority interest and intercompany
dividends for such other includible
corporations and such other includible
entities.
Attach a supporting schedule that
provides the name, EIN, and net income
(loss) per the financial statement or books
and records on this line 7 for each
separate other includible corporation and
each separate other includible entity. The
amounts of income (loss) detailed on the
supporting schedule should be reported
Instructions for Schedule M-3 (Form 1120)
-7-
for each separate other includible
corporation or entity without regard to the
effect of consolidation or elimination
entries solely between or among the
entities listed. If there are consolidation or
elimination entries relating to such other
includible corporations or entities whose
income (loss) is reported on the attached
schedule that are not reportable on Part I,
line 8, the net amounts of all such
consolidation and elimination entries must
be reported on a separate line on the
attached schedule, so that the separate
financial accounting income (loss) of each
other includible corporation or entity
remains separately stated. For example, if
the net income (after consolidation and
elimination entries) of a sub-consolidated
U.S. group of other includible
corporations or entities is being reported
on line 7a, the attached supporting
schedule should report the income (loss)
of each separate other includible
corporation or entity from each
corporation’s own financial accounting net
income statement or books and records,
and any consolidation or elimination
entries (for intercompany dividends,
minority interests, etc.) not reportable on
Part I, line 8, should be reported on the
attached supporting schedule as a net
amount on a line separate and apart from
lines that report each other includible
corporation’s or entity’s separate net
income (loss).
Line 8. Adjustment to
Eliminations of Transactions
Between Includible Entities and
Nonincludible Entities
Adjustments on Part I, line 8, to reverse
certain financial accounting consolidation
or elimination entries are necessary to
ensure that transactions between
includible corporations and nonincludible
U.S. or foreign entities are not eliminated,
in order to report the correct total amount
on Part I, line 11. Also, additional
consolidation entries and eliminations
entries may be necessary on Part I, line
8, related to transactions between
includible corporations that are in the
consolidated financial statement group
and other includible corporations and
entities that are not in the consolidated
financial statement group but that are
reported on Part I, line 7, in order to
report the correct total amount on Part I,
line 11.
Include on Part I, line 8, the total of the
following: (a) amounts of any adjustments
to consolidation entries and elimination
entries that are contained in the amount
reported on Part I, line 4, required as a
result of removing amounts on Part I, line
5 or 6; and (b) amounts of any additional
consolidation entries and elimination
entries that are required as a result of
including amounts on Part I, line 7. This is
necessary in order that the consolidation
entries and intercompany eliminations
entries included in the amount reported
on Part I, line 11 are only those applicable
to the financial net income (loss) of
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includible corporations for the financial
statement period. For example,
adjustments must be reported on line 8 to
remove minority interest and to reverse
the elimination of intercompany dividends
included on Part I, line 4, that relate to the
net income of entities removed on Part I,
line 5 or 6, because the income to which
the consolidation or elimination entries
relate has been removed. Also, for
example, consolidation or elimination
entries must be reported on line 8 to
reflect any minority interest ownership in
the net income of other includible
corporations or entities reported on Part I,
line 7, and to eliminate any intercompany
dividends between corporations or
entities whose income is included on Part
I, line 7, and other corporations included
in the consolidated U.S. federal income
tax return.
If a corporate owner of an interest in
another entity (entity): (a) accounts for the
interest in entity in the owner
corporation’s separate general ledger on
the equity method, and (b) fully
consolidates entity in the owner
corporation’s consolidated financial
statements, but entity is not includible in
the owner corporation’s consolidated U.S.
federal income tax return, then, as part of
reversing all consolidation and elimination
entries for the nonincludible entity, the
corporate owner must reverse on
Schedule M-3, Part I, line 8, the
elimination of the equity income inclusion
from entity. If the owner corporation does
not account for entity on the equity
method on its own general ledger, it will
not have eliminated the equity income for
consolidated financial statement
purposes, and therefore will have no
elimination of equity income to reverse.
The attached supporting schedule for
Part I, line 8, must identify the type (e.g.,
minority interest, intercompany dividends,
etc.) and amount of consolidation or
elimination entries reported, as well as
the names of the entities to which they
pertain. It is not necessary, but it is
permitted, to report intercompany
eliminations that net to zero on Part I, line
8, such as intercompany interest income
and expense.
Line 9. Adjustment to Reconcile
Income Statement Period to Tax
Year
Include on line 9 any adjustments
necessary to the income (loss) of
includible corporations to reconcile
differences between the corporation’s
income statement period reported on line
2a and the corporation’s tax year. Attach
a schedule describing the adjustment.
Statutory accounting for an insurance
company subsidiary acquired or merged
may require the use of a financial
statement period for income reported on
Part I, line 11, that differs from the period
reported on Part I, line 4 or line 7. Report
on Part I, line 10b, adjustments to income
because of such differences in accounting
period.
Line 10a. Intercompany
Dividend Adjustments To
Reconcile to Line 11
Line 10b. Other Statutory
Accounting Adjustments To
Reconcile to Line 11
Line 10c. Other Adjustments To
Reconcile to Amount on Line 11
Include on lines 10a, 10b, and 10c any
other adjustments to reconcile net income
(loss) on Part I, line 4 through Part I, line
9, with net income (loss) on Part I, line 11.
Include on line 10a the amount of any
intercompany dividend adjustment
required by statutory accounting. Include
on line 10b the amount of any other
required statutory accounting adjustment.
Include on line 10c the amount of any
other adjustment not required by statutory
accounting.
Normally, all intercompany dividends
will have been eliminated or excluded
from the financial accounting consolidated
net income (loss) reported on Part I, line
4. However, an insurance company may
be required to include certain
intercompany dividends on Part I, line 11,
so that the amount reported on Part I, line
11, agrees with statutory accounting net
income (Annual Statement). If the net
income (loss) of a corporation that files
Form 1120-PC or Form 1120-L is
included on Part I, line 4 or line 7, and is
computed on a basis other than statutory
accounting, include on line 10a the
adjustments necessary such that Part I,
line 11, includes intercompany dividends
in the net income (loss) for such
corporation to the extent required by
statutory accounting principles. (For
insurance companies included in the
consolidated U.S. federal income tax
return, see instructions for Part I, line 11
and Part II, line 7.)
Statutory accounting for an insurance
company subsidiary acquired or merged
may require the use of a financial
statement period for income reported on
Part I, line 11, that differs from the period
reported on Part I, line 4 or line 7. Report
on Part I, line 10b, adjustments to income
because of such differences in accounting
period.
For any adjustments reported on Part
I, lines 10a, 10b, and 10c, attach a
supporting schedule that provides, for
each corporation to which an adjustment
relates: the name and EIN of the
corporation, the amount of net income
included in Part I before any adjustments
on line 10, the amount of net income
included on Part I, line 11, the amount of
the net adjustment that is attributable to
intercompany dividend adjustments
required to be reported by statutory
accounting and included on Part I, line
10a, the amount of the net adjustment
attributable to other statutory accounting
requirements and included on Part I, line
10b, and the amount of the remainder of
the net adjustment not required because
of statutory accounting and included on
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Part I, line 10c. If any net adjustment is
included for the corporation on Part I,
lines 10b or 10c, attach a supplemental
supporting schedule identifying the line
(10b or 10c), the type of each adjustment
included in the net adjustment, and the
amount of each adjustment included in
the net adjustment.
Line 11. Net Income (Loss) per
Income Statement of Includible
Corporations
Report on line 11 the net income (loss)
per the income statement (or books and
records, if applicable) of the corporation.
In the case of a U.S. consolidated tax
group, report the consolidated income
statement net income (loss) of all
corporations listed on Form 851 and
included in the consolidated U.S. federal
income tax return for the tax year.
Amounts reported in column (a) of Parts II
and III (see instructions below) must be
reported on the same accounting method
as is used to report the amount of net
income (loss) per income statement of
includible corporations on Part I, line 11,
which for insurance companies is
statutory accounting. If an insurance
company is included in a consolidated
Form 1120, the amount of net income
reported on Part I, Line 11, will include
the statutory accounting net income for
the insurance corporation and the GAAP
net income for the non-insurance
corporations included in the U.S.
consolidated tax group. (For insurance
companies included in the consolidated
U.S. federal income tax return, see
instructions for Part I, line 10 and Part II,
line 7.)
Do not, in any event, report on this line
11 the net income of entities not listed on
Form 851 and not included in the
consolidated U.S. federal income tax
return for the tax year. For example, it is
not permissible to remove the income of
non-includible entities on lines 5 and/or 6,
above, then to add back such income on
lines 7 through 10, such that the amount
reported at line 11 includes the net
income of entities not includible in the
consolidated U.S. federal income tax
return. A principal purpose of Schedule
M-3 is to report on this Part I, line 11, only
the financial accounting net income of
only the corporations included in the
consolidated U.S. federal income tax
return.
Whether or not the corporation
prepares financial statements, Part I, line
11, must include all items that impact the
net income (loss) of the corporation even
if they are not recorded in the profit and
loss accounts in the corporation’s general
ledger, including, for example, all
post-closing adjusting entries (including
workpaper adjustments) and dividend
income or other income received from
non-includible corporations.
Example 3.
1. U.S. corporation P is publicly
traded and files Form 10-K with the SEC.
P owns 80% or more of the stock of 75
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U.S. corporations, DS1 through DS75,
between 51% and 79% of the stock of 25
U.S. corporations DS76 through DS100,
and 100% of the stock of 50 foreign
subsidiaries FS1 through FS50. P
eliminates all dividend income from DS1
through DS100 and FS1 through FS50 in
financial statement consolidation entries.
Furthermore, P eliminates the minority
interest ownership, if any, of DS1 through
DS100 in financial statement
consolidation entries. P’s SEC Form 10-K
includes P, DS1 through DS100 and FS1
through FS50 on a fully consolidated
basis. P files a consolidated U.S. federal
income tax return with DS1 through
DS75.
P must check “Yes” on Part I, line 1a.
On Part I, line 4, P must report the
consolidated net income from the SEC
Form 10-K for the consolidated financial
statement group of P, DS1 through
DS100, and FS1 through FS50. P must
remove the net income (loss) of FS1
through FS50 on Part I, lines 5a or 5b, as
applicable. P must remove the net income
(loss) before minority interests of DS76
through DS100 on Part I, lines 6a or 6b,
as applicable. P must reverse on Part I,
line 8:
a. The elimination of dividends
received by P and DS1 through DS75
from DS76 through DS100 and FS1
through FS50; and
b. The recognition of minority
interests’ share of the net income (loss) of
DS76 through DS100. (Note: The minority
interests’ share, if any, of the income of
DS1 through DS75 must be reported in
Part II, line 8, Minority interest for
includible corporations.)
P reports on Part I, line 11, the
consolidated financial statement net
income (loss) attributable to the includible
corporations. Intercompany transactions
between the includible corporations that
had been eliminated in the net income
amount on line 4 remain eliminated in the
net income amount on line 11.
Transactions between the includible
corporations and the nonincludible
entities that are eliminated in the net
income amount on line 4 are included in
the net income amount on line 11 since
the elimination of those transactions were
reversed on line 8.
2. Foreign corporation F owns 100%
of the stock of U.S. corporation P. P owns
100% of the stock of DS1, 60% of the
stock of DS2, and 100% of the stock of
FS1. F prepares certified audited financial
statements. P does not prepare any
financial statements. P files a
consolidated U.S. federal income tax
return with DS1.
P must not complete Schedule M-3,
Part I, with reference to the financial
statements of its foreign parent F. P must
check “No” on Part I, lines 1a, 1b, and 1c,
skip lines 2a through 3c of Part I, and
enter worldwide net income (loss) per the
books and records of the includible
corporations (P and DS1) on Part I, line 4.
P must enter any necessary adjustments
on lines 5a through 10 in order for Part I,
line 11, to report the net income (loss) of
includible corporations P and DS1, net of
eliminations for transactions between P
and DS1.
Example 4.
1. U.S. corporation P owns 60% of
corporation DS1 which is fully
consolidated in P’s financial statements.
P does not account for DS1 in P’s
separate general ledger on the equity
method. DS1 has net income of $100
(before minority interests) and pays
dividends of $50, of which P receives
$30. The dividend is eliminated in the
consolidated financial statements. In its
financial statements, P consolidates DS1
and includes $60 of net income ($100
less the minority interest of $40) on Part I,
line 4.
P must remove the $100 net income of
DS1 on Part I, line 6a. P must reverse on
Part I, line 8, the elimination of the $40
minority interest net income of DS1. In
addition, P reverses its elimination of the
$30 intercompany dividend in its financial
statements on Part I, line 8. The net result
is that P includes the $30 dividend from
DS1 at Part I, line 11, and on Part II, line
7, column (a). P’s taxable dividend
income from DS1 must be reported on
Part II, line 7, column (d).
2. U.S. corporation C owns 60% of
the capital and profits interests in U.S.
LLC N. C does not account for N in P’s
separate general ledger on the equity
method. N has net income of $100
(before minority interests) and makes no
distributions during the tax year. C treats
N as a corporation for financial statement
purposes and as a partnership for U.S.
federal income tax purposes. In its
financial statements, C consolidates N
and includes $60 of net income ($100
less the minority interest of $40) on Part I,
line 4.
C must remove the $100 net income of
N on Part I, line 6a. C must reverse on
Part I, line 8, the elimination of the $40
minority interest net income of N. The
result is that C includes no income for N
either on Part I, line 11, or on Part II, line
9, column (a). C’s taxable income from N
must be reported by C on Part II, line 9.
3. U.S. corporation P owns 60% of
corporation DS1, which is fully
consolidated in P’s financial statements.
P accounts for DS1 in P’s separate
general ledger on the equity method. DS1
has net income of $100 (before minority
interests) and pays dividends of $50, of
which P receives $30. The dividend
reduces P’s investment in DS1 for equity
method reporting on P’s separate general
ledger where P includes its 60% equity
share of DS1 income, which is $60. In its
financial statements, P eliminates the
DS1 equity method income of $60 and
consolidates DS1, including $60 of net
income ($100 less the minority interest of
$40) on Part I, line 4.
P must remove the $100 net income of
DS1 on Part I, line 6a. P must reverse on
Instructions for Schedule M-3 (Form 1120)
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Part I, line 8, the elimination of the $40
minority interest net income of DS1 and
the elimination of the $60 of DS1 equity
income. The net result is that P includes
the $60 of equity method income from
DS1 at Part I, line 11, and on Part II, line
6, column (a). P’s taxable dividend
income from its investment in DS1 must
be reported on Part II, line 7, column (d).
4. U.S. corporation C owns 60% of
the capital and profits interests in U.S.
LLC N. C accounts for N in C’s separate
general ledger on the equity method. N
has net income of $100 (before minority
interests) and makes no distributions
during the tax year. C treats N as a
corporation for financial statement
purposes and as a partnership for U.S.
federal income tax purposes. For equity
method reporting on C’s separate general
ledger, C includes its 60% equity share of
N income, which is $60. In its financial
statements, C eliminates the $60 of N
equity method income and consolidates N
including $60 of net income ($100 less
the minority interest of $40) on Part I,
line 4.
C must remove the $100 net income of
N on Part I, line 6a. C must reverse on
Part I, line 8, the elimination of the $40
minority interest net income of N and the
elimination of the $60 of N equity method
income. The result is that C includes the
$60 of equity method income for N on
Part I, line 11, and on Part II, line 9,
column (a). C’s taxable income from N
must be reported by C on Part II, line 9,
column (d).
5. U.S. corporation C owns 60% of
the capital and profits interests in U.S.
LLC N. C accounts for N in C’s separate
general ledger on the equity method. N
has net income of $100 (before minority
interests) and pays a $50 cash
distribution, of which C receives $30. The
distribution reduces C’s investment in N
for equity method reporting on C’s
separate general ledger. C treats N as a
corporation for financial statement
purposes and as a partnership for U.S.
federal income tax purposes. For equity
method reporting on C’s separate general
ledger, C includes its 60% equity share of
N income, which is $60. In its financial
statements, C eliminates the $60 of N
equity method income and consolidates N
and includes $60 of net income ($100
less the minority interest of $40) on Part I,
line 4.
C must remove the $100 net income of
N on Part I, line 6a. C must reverse on
Part I, line 8, the elimination of the $40
minority interest net income of N and the
elimination of the $60 of N equity method
income. The result is that C includes the
$60 of equity method income for N on
Part I, line 11, and on Part II, line 9,
column (a). C’s taxable income from N
must be reported by C on Part II, line 9,
column (d).
Example 5. U.S. corporation P owns
80% of the stock of corporation DS1. DS1
is included in P’s consolidated federal
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income tax return, even though DS1 is
not included in P’s consolidated financial
statements on either a consolidated basis
or on the equity method. DS1 has current
year net income of $100 after taking into
account its $40 interest payment to P. P
has net income of $1,040 after
recognition of the interest income from
DS1. Because DS1 is an includible
corporation, 100% of the net income of
both P and DS1 must be reported on
Form 1120, page 1 of the PDS
consolidated U.S. federal income tax
return, and the intercompany interest
income and expense must be removed by
consolidation elimination entries.
P must report its financial statement
net income of $1,040 on Part I, line 4, and
reports DS1’s net income of $100 on Part
I, line 7. Then, in order to reflect the full
consolidation of the financial accounting
net income of P and DS1 at Part I, line
11, the following consolidation and
elimination entries are reported on Part I,
line 8: (a) offsetting entries to remove the
$40 of interest income received from DS1
included by P on line 4, and to remove
the $40 of interest expense of DS1
included in line 7 for a net change of zero;
and (b) an entry to reflect the $20 minority
interest in the net income of DS1 (DS1
net income of $100 × 20% minority
interest). The result is that Part I, line 11,
reports $1,120: $1,040 from line 4, $100
from line 7, and ($20) from line 8. Stated
another way, Part I, line 11, includes the
entire $1,000 net income of P, measured
before recognition of the intercompany
interest income from DS1 and the
consolidation of DS1 operations, plus the
entire $140 net income of DS1, measured
before interest expense to P, less the
minority interest ownership of $20 in
DS1’s separate net income ($100). The
PDS consolidated U.S. federal income tax
group is required to include on the
attached supporting schedule for Part I,
line 8, the details of the adjustment to the
minority interest in the net income of DS1,
but is not required to report the offsetting
adjustment to the intercompany
elimination of interest income and interest
expense (though it is permitted to do so).
Specific Instructions for
Parts II and III
For consolidated U.S. federal income tax
returns, file supporting schedules for each
includible corporation. See “Consolidated
return” in the Instructions for Form 1120.
General Format of Parts II
and III
Indicate on the line after the common
parent’s name on Part II and Part III,
whether the Schedule M-3 is for the: (1)
Consolidated group; (2) Parent
corporation; (3) Consolidated
eliminations; (4) Subsidiary corporation;
or (5) Mixed 1120/L/PC group, by
checking the appropriate box. If
applicable, indicate on the second line of
checkboxes, whether the Schedule M-3 is
for a sub-consoli- dated: (6) 1120 group;
or (7) 1120 eliminations. See
Consolidated Schedule M-3 Versus
Consolidating Schedules M-3 for Form
1120 Groups and Schedule M-3
Consolidation for Mixed Groups (1120/L/
PC) on page 4.
For each line item in Parts II and III,
report in column (a) the amount of net
income (loss) included in Part I, line 11,
and report in column (d) the amount
included in taxable income on Form 1120,
page 1, line 28.
Note. A schedule or explanation may be
attached to any line even if none is
required.
When To Complete Columns (a)
and (d)
A corporation is not required to complete
columns (a) and (d) of Parts II and III for
the first tax year the corporation is
required to file Schedule M-3, and for all
subsequent years the corporation is
required to file Schedule M-3, the
corporation must complete Schedule M-3
in its entirety. Accordingly, the corporation
must complete columns (a) and (d) for all
tax years subsequent to the first tax year
the corporation is required to file
Schedule M-3. For example, if a
corporation was required to file Schedule
M-3 as a member of a U.S. consolidated
tax group and the corporation leaves the
U.S. consolidated tax group, the
corporation is required to complete
Schedule M-3 in its entirety in any
succeeding tax year that the corporation
is required to complete Schedule M-3.
However, if the corporation joins in filing a
different consolidated U.S. federal income
tax return, then the corporation must
complete its Schedule M-3 in its entirety
in any year that the U.S. consolidated tax
group must complete its Schedule M-3 in
its entirety.
If, for any tax year (or tax years) prior
to the first tax year a corporation is
required to file Schedule M-3, a
corporation voluntarily files Schedule M-3
instead of Schedule M-1, then in those
voluntary filing years the corporation is
not required to complete columns (a) and
(d) of Parts II and III. In addition, in the
first tax year the corporation is required to
file Schedule M-3, the corporation is not
required to complete columns (a) and (d)
of Parts II and III.
If a corporation that is not a mixed
group chooses not to complete columns
(a) and (d) of Parts II and III in the first tax
year the corporation is required to file
Schedule M-3 (or in any year in which the
corporation voluntarily files Schedule
M-3), then Part II, line 30, is reconciled by
the corporation (or, in the case of a U.S.
consolidated tax group, by the group’s
parent corporation on Part II, line 30, of
the group’s consolidated Schedule M-3)
in the following manner:
1. Report the amount from Part I, line
11, on Part II, line 30, column (a);
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2. Leave blank Part II, lines 1 through
29, columns (a) and (d);
3. Leave blank Part III, columns (a)
and (d); and
4. Report on Part II, line 30, column
(d), the sum of Part II, line 30, columns
(a), (b), and (c).
Note. Mixed groups should see Schedule
M-3 Consolidation for Mixed Groups
(1120/L/PC) on page 4.
In the case of a U.S. consolidated tax
group that is not a mixed group, the
reconciliation described in the preceding
paragraph must be performed by each
member of the U.S. consolidated tax
group. However, because Part I must be
completed only once on the consolidated
Schedule M-3 by the parent corporation
of the U.S. consolidated tax group, the
amount reported on Part II, line 30,
column (a), by each member of the U.S.
consolidated tax group on its respective
Schedule M-3 is the amount attributable
to that member that is reported on the
consolidated Schedule M-3, Part I, line
11, completed by the parent corporation.
Accordingly, the amount reported on Part
II, line 30, columns (a) through (d) of the
consolidated Schedule M-3 is the sum of
the amounts reported by each member of
the U.S. consolidated tax group on its
respective Schedule M-3 (including a
Schedule M-3 for consolidation
eliminations, if necessary). Note that the
amount reported on Part II, line 30,
column (a) of the consolidated Schedule
M-3 must equal the amount reported on
Part I, line 11 of the consolidated
Schedule M-3, and that the amount
reported on Part II, line 30, column (d) of
the consolidated Schedule M-3 must
equal the amount reported on the
consolidated Form 1120, page 1, line 28.
When To Complete Columns (b)
and (c)
Columns (b) and (c) of Parts II and III
must be completed for any tax year for
which the corporation files Schedule M-3.
For any item of income, gain, loss,
expense, or deduction for which there is a
difference between columns (a) and (d),
the portion of the difference that is
temporary must be entered in column (b)
and the portion of the difference that is
permanent must be entered in column (c).
If financial statements are prepared by
the corporation in accordance with
generally accepted accounting principles
(GAAP), differences that are treated as
temporary for GAAP must be reported in
column (b) and differences that are
permanent (that is, not temporary for
GAAP) must be reported in column (c).
Generally, pursuant to GAAP, a
temporary difference affects (creates,
increases, or decreases) a deferred tax
asset or liability.
If the corporation does not prepare
financial statements, or the financial
statements are not prepared in
accordance with GAAP, report in column
(b) any difference that the corporation
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believes will reverse in a future tax year
(that is, have an opposite effect on
taxable income in a future tax year (or
years) due to the difference in timing of
recognition for financial accounting and
U.S. federal income tax purposes) or is
the reversal of such a difference that
arose in a prior tax year. Report in column
(c) any difference that the corporation
believes will not reverse in a future tax
year (and is not the reversal of such a
difference that arose in a prior tax year).
Reporting Requirements
for Parts II and III
If the corporation is unable to
determine whether a difference between
column (a) and column (d) for an item will
reverse in a future tax year or is the
reversal of a difference that arose in a
prior tax year, report the difference for
that item in column (c).
If an amount is attributable to a reportable
transaction described in Regulations
section 1.6011-4(b), the amount must be
reported in columns (a), (b), (c), and (d),
as applicable, of Part II, line 12,
regardless of whether the amount would
otherwise be reported on Part II or Part III
of Schedule M-3. Thus, if a taxpayer files
Form 8886, Reportable Transaction
Disclosure Statement, the amounts
attributable to that reportable transaction
must be reported on Part II, line 12.
A corporation is required to report in
column (a) of Parts II and III the amount
of any item specifically listed on Schedule
M-3 that is in any manner included in the
corporation’s current year financial
statement net income (loss) or in an
income or expense account maintained in
the corporation’s books and records, even
if there is no difference between that
amount and the amount included in
taxable income unless (a) otherwise
provided in these instructions or (b) the
amount is attributable to a reportable
transaction described in Regulations
section 1.6011-4(b) and is therefore
reported on Part II, line 12. For example,
with the exception of interest income
reflected on a Schedule K-1 received by a
corporation as a result of the
corproation’s investment in a partnership
or other pass-through entity, all interest
income, included on Part I, line 11,
whether from unconsolidated affiliated
companies, third parties, banks, or other
entities, whether from foreign or domestic
sources, whether taxable or exempt from
tax, and whether classified as some other
type of income for U.S. federal income tax
purposes (such as dividends), must be
included on Part II, line 13, column (a).
Likewise, all fines and penalties included
in Part I, Line 11, paid to a government or
other authority for the violation of any law
for which fines or penalties are assessed
must be included on Part III, line 12,
column (a), regardless of the government
authority that imposed the fines or
penalties, regardless of whether the fines
or penalties are civil or criminal,
regardless of the classification,
nomenclature, or terminology attached to
the fines or penalties by the imposing
authority in its actions or documents.
If a corporation would be required to
report in column (a) of Parts II and III the
amount of any item specifically listed on
Schedule M-3 in accordance with the
preceding paragraph, except that the
corporation has capitalized the item of
income or expense and reports the
Example 6. For the 2004, 2005, and
2006 tax years, corporation A has total
consolidated assets on the last day of the
tax year as reported on Schedule L, line
15, column (d), of $8 million, $11 million,
and $12 million, respectively. A is
required to file Schedule M-3 for its 2005
and 2006 tax years.
For its 2004 tax year, A voluntarily files
Schedule M-3 instead of Schedule M-1
and does not complete columns (a) and
(d) of Parts II and III.
For A’s 2005 tax year, the first tax year
that A is required to file Schedule M-3, A
is only required to complete Part I and
columns (b) and (c) of Parts II and III.
For A’s 2006 tax year, A is required to
complete Schedule M-3 in its entirety.
Example 7. Corporation B is a U.S.
publicly traded corporation that files a
consolidated U.S. federal income tax
return and prepares consolidated GAAP
financial statements. In prior years, B
acquired intellectual property (IP) and
goodwill through several corporate
acquisitions. The IP is amortizable for
both U.S. federal income tax and financial
statement purposes. In the current year,
B’s annual amortization expense for IP is
$9,000 for U.S. federal income tax
purposes and $6,000 for financial
statement purposes. In its financial
statements, B treats the difference in IP
amortization as a temporary difference.
The goodwill is not amortizable for U.S.
federal income tax purposes and is
subject to impairment for financial
statement purposes. In the current year,
B records an impairment charge on the
goodwill of $5,000. In its financial
statements, B treats the goodwill
impairment as a permanent difference. B
must report the amortization attributable
to the IP on Part III, line 28, and report
$6,000 in column (a), a temporary
difference of $3,000 in column (b), and
$9,000 in column (d). B must report the
goodwill impairment on Part III, line 26,
and report $5,000 in column (a), a
permanent difference of ($5,000) in
column (c), and $0 in column (d).
Except for mixed group consolidation, the
number of Parts II must equal the number
of Parts III filed by the corporation. Mixed
groups should see Schedule M-3
Consolidation for Mixed Groups (1120/L/
PC) on page 4.
General Reporting
Requirements
Instructions for Schedule M-3 (Form 1120)
-11-
amount in its financial statement balance
sheet or in asset and liability accounts
maintained in the corporation’s books and
records, the corporation must report the
proper tax treatment of the item in
columns (b), (c), and (d), as applicable.
Furthermore, in applying the two
preceding paragraphs, a corporation is
required to report in column (a) of Parts II
and III the amount of any item specifically
listed on Schedule M-3 that is included in
the corporation’s financial statements or
exists in the corporation’s books and
records, regardless of the nomenclature
associated with that item in the financial
statements or books and records.
Accurate completion of Schedule M-3
requires reporting amounts according to
the substantive nature of the specific line
items included in Schedule M-3 and
consistent reporting of all transactions of
like substantive nature that occurred
during the tax year. For example, all
expense amounts that are included in the
financial statements or exist in the books
and records that represent some form of
“Bad debt expense,” must be reported on
Part III, line 32, in column (a), regardless
of whether the amounts are recorded or
stated under different nomenclature in the
financial statements or the books and
records such as: “Provision for doubtful
accounts”; “Expense for uncollectible
notes receivable”; or “Impairment of trade
accounts receivable.” Likewise, as stated
in the preceding paragraph, all fines and
penalties must be included on Part III, line
12, column (a), regardless of the
terminology or nomenclature attached to
them by the corporation in its books and
records or financial statements.
With limited exceptions, Part II
includes lines for specific items of income,
gain, or loss (income items). (See Part II,
lines 1 through 24.) If an income item is
described in Part II, lines 1 through 24,
report the amount of the item on the
applicable line, regardless of whether
there is a difference for the item. If there
is a difference for the income item, or only
a portion of the income item has a
difference and a portion of the item does
not have a difference, and the item is not
described in Part II, lines 1 through 24,
report and describe the entire amount of
the item on Part II, line 25.
With limited exceptions, Part III
includes lines for specific items of
expense or deduction (expense items).
(See Part III, lines 1 through 34.) If an
expense item is described on Part III,
lines 1 through 34, report the amount of
the item on the applicable line, regardless
of whether there is a difference for the
item. If there is a difference for the
expense item, or only a portion of the
expense item has a difference and a
portion of the item does not have a
difference and the item is not described in
Part III, lines 1 through 34, report and
describe the entire amount of the item on
Part III, line 35.
If there is no difference between the
financial accounting amount and the
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taxable amount of an entire item of
income, loss, expense, or deduction and
the item is not described or included in
Part II, lines 1 through 25, or Part III, lines
1 through 35, report the entire amount of
the item in column (a) and (d) of Part II,
line 28.
Separately stated and adequately
disclosed. Each difference reported in
Parts II and III must be separately stated
and adequately disclosed. In general, a
difference is adequately disclosed if the
difference is labeled in a manner that
clearly identifies the item or transaction
from which the difference arises. For
further guidance about adequate
disclosure, see Regulations section
1.6662-4(f) and Rev. Proc. 2006-48,
2006-47 I.R.B. 934. If a specific item of
income, gain, loss, expense, or deduction
is described on Part II, lines 9 through 24,
or Part III, lines 1 through 34, and the line
does not indicate to “attach schedule” or
“attach details,” and the specific
instructions for the line do not call for an
attachment of a schedule or statement,
then the item is considered separately
stated and adequately disclosed if the
item is reported on the applicable line and
the amount(s) of the item(s) are reported
in the applicable columns of the
applicable line. See the instructions for
Part II, lines 1 through 8, for specific
additional information required to be
provided for these particular lines.
Note. A schedule or explanation may be
attached to any line even if none is
required.
Except as otherwise provided,
differences for the same item must be
combined or netted together and reported
as one amount on the applicable line of
Schedule M-3. However, differences for
separate items must not be combined or
netted together. Each item (and
corresponding amount attributable to that
item) must be separately stated and
adequately disclosed on the applicable
line of Schedule M-3, or any schedule
required to be attached, even if the
amounts are below a certain dollar
amount.
Example 8. Corporation C is a
calendar year taxpayer that placed in
service ten depreciable fixed assets in
2000. C was required to file Schedule M-3
for its 2005 tax year and is required to file
Schedule M-3 for its 2006 tax year. C’s
total depreciation expense for its 2006 tax
year for five of the assets is $50,000 for
income statement purposes and $70,000
for U.S. federal income tax purposes. C’s
total annual depreciation expense for its
2006 tax year for the other five assets is
$40,000 for income statement purposes
and $30,000 for U.S. federal income tax
purposes. In its financial statements, C
treats the differences between financial
statement and U.S. federal income tax
depreciation expense as giving rise to
temporary differences that will reverse in
future years. C must combine all of its
depreciation adjustments. Accordingly, C
must report on Part III, line 31, for its
2006 tax year income statement
depreciation expense of $90,000 in
column (a), a temporary difference of
$10,000 in column (b), and U.S. federal
income tax depreciation expense of
$100,000 in column (d).
Example 9. Corporation D is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. On December 31, 2006, D
establishes three reserve accounts in the
amount of $100,000 for each account.
One reserve account is an allowance for
accounts receivable that are estimated to
be uncollectible. The second reserve is
an estimate of coupons outstanding that
may have to be paid. The third reserve is
an estimate of future warranty expenses.
In its financial statements, D treats the
three reserve accounts as giving rise to
temporary differences that will reverse in
future years. The three reserves are
expenses in D’s 2006 financial
statements but are not deductions for
U.S. federal income tax purposes in 2006.
D must not combine the Schedule M-3
differences for the three reserve
accounts. D must report the amounts
attributable to the allowance for
uncollectible accounts receivable on Part
III, line 32, Bad debt expense, and must
separately state and adequately disclose
the amounts attributable to each of the
other two reserves, coupons outstanding
and warranty costs, on a required,
attached schedule that supports the
amounts at Part III, line 35.
Example 10. Corporation E is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. On January 2, 2006, E
establishes an allowance for uncollectible
accounts receivable (bad debt reserve) of
$100,000. During 2006, E increased the
reserve by $250,000 for additional
accounts receivable that may become
uncollectible. Additionally, during 2006 E
decreases the reserve by $75,000 for
accounts receivable that were discharged
in bankruptcy during 2006. The balance in
the reserve account on December 31,
2006, is $275,000. The $100,000 amount
to establish the reserve account and the
$250,000 to increase the reserve account
are expenses on E’s 2006 financial
statements but are not deductible for U.S.
federal income tax purposes in 2006.
However, the $75,000 decrease to the
reserve is deductible for U.S. federal
income tax purposes in 2006. In its
financial statements, E treats the reserve
account as giving rise to a temporary
difference that will reverse in future tax
years. E must report on Part III, line 32,
Bad debt expense, for its 2006 tax year
income statement bad debt expense of
$350,000 in column (a), a temporary
difference of ($275,000) in column (b),
and U.S. federal income tax bad debt
expense of $75,000 in column (d).
Example 11. Corporation F is a
calendar year taxpayer that was required
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to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. During 2006, F incurs
$200 of meals and entertainment
expenses that F deducts in computing net
income per the income statement. $50 of
the $200 is subject to the 50% limitation
under section 274(n). In its financial
statements, F treats the limitation on
deductions for meals and entertainment
as a permanent difference. Because
meals and entertainment expenses are
specifically described in Part III, line 11,
Meals and entertainment, F must report
all of its meals and entertainment
expenses on this line, regardless of
whether there is a difference. Accordingly,
F must report $200 in column (a), $25 in
column (c), and $175 in column (d). F
must not report the $150 of meals and
entertainment expenses that are
deducted in F’s financial statement net
income and are fully deductible for U.S.
federal income tax purposes on Part II,
line 28, Other items with no differences,
and the $50 subject to the limitation under
section 274(n) on Part III, line 11.
Part II. Reconciliation of
Net Income (Loss) per
Income Statement of
Includible Corporations
With Taxable Income per
Return
Lines 1 Through 8. Additional
Information for Each
Corporation
For any item reported on Part II, lines 1, 3
through 6, or 8, attach a supporting
schedule that provides the name of the
entity for which the item is reported, the
entity’s EIN (if applicable), the type of
entity (corporation, partnership, etc.), and
the item amounts for columns (a) through
(d). See the instructions for Part II, lines 2
and 7, for the specific information
required for those particular lines.
Line 1. Income (Loss) From
Equity Method Foreign
Corporations
Report on line 1, column (a), the income
statement income (loss) included in Part I,
line 11, for any foreign corporation
accounted for on the equity method and
remove such amount in column (b) or (c),
as applicable. Report the amount of
dividends received and other taxable
amounts received or includible from
foreign corporations on Part II, lines 2
through 5, as applicable.
Line 2. Gross Foreign
Dividends Not Previously Taxed
Except as otherwise provided in this
paragraph, report on line 2, column (d),
the amount (before any withholding tax)
of any foreign dividends included in
current year taxable income on Form
1120, page 1, line 28, and report on line
Instructions for Schedule M-3 (Form 1120)
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2, column (a), the amount of dividends
from any foreign corporation included in
Part I, line 11. Do not report on Part II,
line 2, any amounts that must be reported
on Part II, lines 3 or 4, or dividends that
were previously taxed and must be
reported on Part II, line 5. (See the
instructions below for Part II, lines 3, 4
and 5.)
For any dividends reported on Part II,
line 2, that are received on a class of
voting stock of which the corporation
directly or indirectly owned 10% or more
of the outstanding shares of that class at
any time during the tax year, report on an
attached supporting schedule for Part II,
line 2; (1) the name of the dividend payer,
(2) the payer’s EIN (if applicable), (3) the
class of voting stock on which the
dividend was paid, (4) the percentage of
the class directly or indirectly owned, and
(5) the amounts for columns (a) through
(d).
Line 3. Subpart F, QEF, and
Similar Income Inclusions
Report on line 3, column (d), the amount
included in taxable income under section
951 (relating to Subpart F), gains or other
income inclusions resulting from elections
under sections 1291(d)(2) and 1298(b)(1),
and any amount included in taxable
income pursuant to section 1293 (relating
to qualified electing funds). The amount of
Subpart F income corresponds to the total
of the amounts reported by the
corporation on line 6, Schedule I, of all
Forms 5471, Information Return of U.S.
Persons With Respect To Certain Foreign
Corporations. The amount of qualified
electing fund income corresponds to the
total of the amounts reported by the
corporation on line 3(a), Part II, of all
Forms 8621, Return by a Shareholder of
a Passive Foreign Investment Company
or Qualified Electing Fund.
Also include on line 3 PFIC
mark-to-market gains and losses under
section 1296. Do not report such gains
and losses on Part II, line 16.
Line 4. Section 78 Gross-Up
Report on line 4, column (d), the amount
of any section 78 gross-up not included in
column (d) of Part II, lines 9, 10, and 11,
Income (loss) from U.S. partnerships,
foreign partnerships and other
pass-through entities. The section 78
gross-up amount on this line 4 must
correspond to the total section 78
gross-up amounts reported by the
corporation on all Forms 1118, Foreign
Tax Credit — Corporations, excluding the
amounts reported in column (d) of Part II,
lines 9, 10 and 11.
Line 5. Gross Foreign
Distributions Previously Taxed
Report on line 5, column (a), any
distributions received from foreign
corporations that were included in Part I,
line 11, and that were previously taxed for
U.S. federal income tax purposes. For
example, include in column (a) amounts
that are excluded from taxable income
under sections 959 and 1293(c). Remove
such amount in column (b) or (c), as
applicable. Report the full amount of the
distribution before any withholding tax.
Since previously taxed foreign
distributions are not currently taxable, line
5, column (d) is shaded. (Also, see
instructions above for Part II, line 2.)
Line 6. Income (Loss) From
Equity Method U.S.
Corporations
Report on line 6, column (a), the income
statement income (loss) included in Part I,
line 11, for any U.S. corporation
accounted for on the equity method and
remove such amount in column (b) or (c),
as applicable. Report on Part II, line 7,
dividends received from any U.S.
corporation accounted for on the equity
method.
Line 7. U.S. Dividends Not
Eliminated in Tax Consolidation
Report on line 7, column (a), the amount
of dividends included in Part I, line 11 that
were received from any U.S. corporation.
Report on line 7, column (d), the amount
of any U.S. dividends included in taxable
income on Form 1120, page 1, line 28.
Usually, the amounts included on line
7, columns (a) and (d) include only
dividends received from U.S. corporations
that are not included in the U.S.
consolidated tax group because
intercompany dividends (dividends
received from includible corporations
listed on Form 851) are eliminated or
excluded for financial accounting
purposes and eliminated for the
calculation of U.S. taxable income. In the
case of an insurance company included in
the consolidated U.S. federal income tax
return required to report intercompany
dividends as part of statutory accounting
net income, include such intercompany
dividends on Part II, line 7, column (a)
and the taxable amount of those
dividends on Part II, line 7, column (d).
(For insurance companies included in the
consolidated U.S. federal income tax
return, see the instructions for Part I, lines
10 and 11.)
For any intercompany dividends
(dividends received from includible
corporations listed on Form 851) included
on Part II, line 7, report on an attached
supporting schedule: (1) the name of the
dividend payer, (2) the payer’s EIN, (3)
the class of stock or security on which the
dividends were paid, (4) the amount of
any net adjustment included on Part I, line
10a, for such dividends, and (5) the item
amounts for columns (a) through (d).
For any dividends included on Part II,
line 7, that are not intercompany
dividends (dividends received from
includible corporations listed on Form
851) that are received on classes of
voting stock in which the corporation
directly or indirectly owned 10% or more
of the outstanding shares of that class at
any time during the tax year, report on an
attached supporting schedule for Part II,
Instructions for Schedule M-3 (Form 1120)
-13-
line 7, (1) the name of the dividend payer,
(2) the payer’s EIN (if applicable), (3) the
class of voting stock on which the
dividend was paid, (4) the percentage of
the class directly or indirectly owned, and
(5) the item amounts for columns (a)
through (d).
Line 8. Minority Interest for
Includible Corporations
Report on line 8, column (a), the minority
interest included in the income statement
income (loss) on Part I, line 11, for any
member of the U.S. consolidated tax
group that is less than 100% owned.
Example 12. Corporation G is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. G owns 90% of the stock
of U.S. corporation DS1. G files a
consolidated U.S. federal income tax
return with DS1 as the GDS1 U.S.
consolidated group. G prepares certified
GAAP financial statements for the
consolidated financial statement group
consisting of G and DS1. G has no net
income of its own, and G does not report
its equity interest in the income of DS1 on
its separate financial statements. DS1
has financial statement net income
(before minority interests) and taxable
income of $1,000 ($2,500 of revenue less
$1,500 cost of goods sold).
On the consolidated Schedule M-3,
Part I, line 4, Worldwide consolidated net
income (loss) per income statement, and
on line 11, Net income (loss) per income
statement of includible corporations, the
U.S. consolidated tax group GDS1 must
report $900 of financial statement net
income ($1,000 net income less $100
minority interest).
The GDS1 group must prepare one
consolidated Schedule M-3, Parts II and
III and three additional Schedules M-3,
Parts II and III: one for G, one for DS1,
and one for consolidation eliminations.
On the Schedule M-3, Parts II and III
for DS1, $1,000 is reported on Part II, line
28 and line 30, in both columns (a) and
(d). On G’s Schedule M-3, Parts II and III,
zero is reported on Part II, line 30, in both
columns (a) and (d). On the consolidation
eliminations Schedule M-3, Parts II and
III, on Part II, line 8 and line 30, the
minority interest elimination for the U.S.
consolidated tax group is reported as
($100) in column (a), $100 in column (c),
and $0 in column (d).
On the Schedule M-3, Parts II and III
for the U.S. consolidated tax group, on
Part II, line 8, Minority interest for
includible corporations, ($100) is reported
in column (a), $100 in column (c), and $0
in column (d). On Part II, line 28, the U.S.
consolidated tax group reports $1,000 in
both columns (a) and (d). As a result,
financial statement net income on Part II,
line 30, column (a), will total $900, net
permanent differences on Part II, line 30,
column (c), will total $100, and taxable
income on line 30, column (d), will total
$1,000.
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Line 9. Income (Loss) From U.S.
Partnerships and
Line 10. Income (Loss) From
Foreign Partnerships
For any interest owned by the corporation
or a member of the U.S. consolidated tax
group that is treated as an investment in a
partnership for U.S. federal income tax
purposes (other than an interest in a
disregarded entity), report amounts on
Part II, line 9 or 10, as described below:
1. In column (a) the sum of the
corporation’s distributive share of income
or loss from a U.S. or foreign partnership
that is included in Part I, line 11;
2. In column (b) or (c), as applicable,
except for amounts described in item 4,
below, the sum of all differences, if any,
attributable to the corporation’s
distributive share of income or loss from a
U.S. or foreign partnership; and
3. In column (d), except for amounts
described in item 4, below, the sum of all
amounts of income, gain, loss, or
deduction attributable to the corporation’s
distributive share of income or loss from a
U.S. or foreign partnership (i.e., the sum
of all amounts reportable on the
corporation’s Schedule(s) K-1 received
from the partnership (if applicable)),
without regard to any limitations
computed at the partner level (e.g.,
limitations on utilization of charitable
contributions, capital losses, and interest
expense).
4. Do not report on Part II, line 9 or
10, as applicable, any portion of a
corporation’s domestic production
activities deduction under section 199
even if some or all of the corporation’s
deduction is attributable to a partnership
interest held by the corporation. A
corporation must report this deduction
only on Part III, Line 22.
For each partnership reported on line 9
or 10, attach a supporting schedule that
provides the name, EIN (if applicable),
end of year profit-sharing percentage (if
applicable), end of year loss-sharing
percentage (if applicable), and the
amount reported in column (a), (b), (c), or
(d) of lines 9 or 10, as applicable.
Example 13. U.S. corporation H is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. H has an investment in a
U.S. partnership USP. H prepares
financial statements in accordance with
GAAP. In its financial statements, H treats
the difference between financial
statement net income and taxable income
from its investment in USP as a
permanent difference. For its 2006 tax
year, H’s financial statement net income
includes $10,000 of income attributable to
its share of USP’s net income. H’s
Schedule K-1 from USP reports $5,000 of
ordinary income, $7,000 of long-term
capital gains, $4,000 of charitable
contributions, and $200 of section 179
expense. H must report on Part II, line 9,
$10,000 in column (a), a permanent
difference of ($2,200) in column (c), and
$7,800 in column (d).
Example 14. Same facts as Example
13 except that corporation H’s charitable
contribution deduction is wholly
attributable to its partnership interest in
USP and is limited to $90 pursuant to
section 170(b)(2) due to other investment
losses incurred by H. In its financial
statements, H treated this limitation as a
temporary difference. H must not report
the charitable contribution limitation of
$3,910 ($4,000 -$90) on Part II, line 9. H
must report the limitation on Part III, line
21, and report the disallowed charitable
contributions of ($3,910) in columns (b)
and (d).
Line 11. Income (Loss) From
Other Pass-Through Entities
For any interest in a pass-through entity
(other than an interest in a partnership
reportable on Part II, line 9 or 10, as
applicable) owned by a member of the
U.S. consolidated tax group (other than
an interest in a disregarded entity), report
the following on line 11:
1. In column (a) the sum of the
corporation’s distributive share of income
or loss from the pass-through entity that is
included in Part I, line 11;
2. In column (b) or (c), as applicable,
except for amounts described in item 4,
below, the sum of all differences, if any,
attributable to the pass-through entity;
and
3. In column (d), except for amounts
described in item 4, below, the sum of all
taxable amounts of income, gain, loss, or
deduction reportable on the corporation’s
Schedules K-1 received from the
pass-through entity (if applicable).
4. Do not report on Part II, line 11, any
portion of a corporation’s domestic
production activities deduction even if
some or all of the corporation’s deduction
is attributable to an interest in a
pass-through entity held by the
corporation. A corporation must report
this deduction only on Part III, Line 22.
For each pass-through entity reported
on line 11, attach a supporting schedule
that provides that entity’s name, EIN (if
applicable), the corporation’s end of year
profitsharing percentage (if applicable),
the corporation’s end of year loss-sharing
percentage (if applicable), and the
amounts reported by the corporation in
column (a), (b), (c), or (d) of line 11, as
applicable.
Line 12. Items Relating to
Reportable Transactions
Any amounts attributable to any
reportable transactions (as described in
Regulations section 1.6011-4) must be
included on Part II, line 12, regardless of
whether the difference, or differences,
would otherwise be reported elsewhere in
Part II or Part III. Thus, if a taxpayer files
Form 8886 for any reportable transaction
described in Regulations section
1.6011-4, the amounts attributable to that
reportable transaction must be reported
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on Part II, line 12. In addition, all income
and expense amounts attributable to a
reportable transaction must be reported
on Part II, line 12, columns (a) and (d)
even if there is no difference between the
financial statement amounts and the
taxable amounts.
Each difference attributable to a
reportable transaction must be separately
stated and adequately disclosed. A
corporation will be considered to have
separately stated and adequately
disclosed a reportable transaction on line
12 if the corporation sequentially numbers
each Form 8886 and lists by identifying
number on the supporting schedule for
Part II, line 12, each sequentially
numbered reportable transaction and the
amounts required for Part II, line 12,
columns (a) through (d).
In lieu of the requirements of the
preceding paragraph, a corporation will
be considered to have separately stated
and adequately disclosed a reportable
transaction if the corporation attaches a
supporting schedule that provides the
following for each reportable transaction:
1. A description of the reportable
transaction disclosed on Form 8886 for
which amounts are reported on Part II,
line 12;
2. The name and tax shelter
registration number, if applicable, as
reported on lines 1a and 1b, respectively,
of Form 8886; and
3. The type of reportable transaction
(i.e., listed transaction, confidential
transaction, transaction with contractual
protection, etc.) as reported on line 2 of
Form 8886.
If a transaction is a listed transaction
described in Regulations section
1.6011-4(b)(2), the description also must
include the description provided on line 3
of Form 8886. In addition, if the reportable
transaction involves an investment in the
transaction through another entity such as
a partnership, the description must
include the name and EIN (if applicable)
of that entity as reported on line 5 of Form
8886.
Example 15. Corporation J is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. J incurred seven different
abandonment losses during its 2006 tax
year. One loss of $12 million results from
a reportable transaction described in
Regulations section 1.6011- 4(b)(5),
another loss of $5 million results from a
reportable transaction described in
Regulations section 1.6011-4(b)(4), and
the remaining five abandonment losses
are not reportable transactions. J
discloses the reportable transactions
giving rise to the $12 million and $5
million losses on separate Forms 8886
and sequentially numbers them X1 and
X2, respectively. J must separately state
and adequately disclose the $12 million
and $5 million losses on Part II, line 12.
The $12 million loss and the $5 million
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loss will be adequately disclosed if J
attaches a supporting schedule for line 12
that lists each of the sequentially
numbered forms, Form 8886-X1 and
Form 8886-X2, and with respect to each
reportable transaction reports the
appropriate amounts required for Part II,
line 12, columns (a) through (d).
Alternatively, J’s disclosures will be
adequate if the description provided for
each loss on the supporting schedule
includes the names and tax shelter
registration numbers, if any, disclosed on
the applicable Form 8886, identifies the
type of reportable transaction for the loss,
and reports the appropriate amounts
required for Part II, line 12, columns (a)
through (d). J must report the losses
attributable to the other five abandonment
losses on Part II, line 23e, regardless of
whether a difference exists for any or all
of those abandonment losses.
Example 16. Corporation K is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. K enters into a transaction
with contractual protection that is a
reportable transaction described in
Regulations section 1.6011-4(b)(4). This
reportable transaction is the only
reportable transaction for K’s 2006 tax
year and results in a $7 million capital
loss for both financial statement purposes
and U.S. federal income tax purposes.
Although the transaction does not result
in a difference, K is required to report on
Part II, line 12, the following amounts: ($7
million) in column (a), zero in columns (b)
and (c), and ($7 million) in column (d).
The transaction will be adequately
disclosed if K attaches a supporting
schedule for line 12 that (a) sequentially
numbers the Form 8886 and refers to the
sequentially-numbered Form 8886-X1
and (b) reports the applicable amounts
required for line 12, columns (a) through
(d). Alternatively, the transaction will be
adequately disclosed if the supporting
statement for line 12 includes a
description of the transaction, the name
and tax shelter registration number, if
any, and the type of reportable
transaction disclosed on Form 8886.
Line 13. Interest income
Report on Part II, line 13, column (a), the
total amount of interest income included
on Part I, line 11, and report on Part II,
line 13, column (d), the total amount of
interest income included on Form 1120,
page 1, line 28, that is not required to be
reported elsewhere on Schedule M-3. In
columns (b) or (c), as applicable, adjust
for any amounts treated for U.S. federal
income tax purposes as interest income
that are treated as some other form of
income in the financial statements, or vice
versa. For example, adjustments to
interest income resulting from
adjustments made in accordance with the
instructions for Part II, line 18, should be
made in columns (b) and (c) of this line
13.
Do not report on this line 13 amounts
reported in accordance with instructions
for Part II, lines 9, 10, 11, 12, and 22.
Line 14. Total Accrual to Cash
Adjustment
This line is completed by a corporation
that prepares financial statements (or
books and records, if permitted) using an
overall accrual method of accounting and
uses an overall cash method of
accounting for U.S. federal income tax
purposes (or vice versa). With the
exception of amounts required to be
reported on Part II, line 12, the
corporation must report on Part II, line 14,
a single amount net of all adjustments
attributable solely to the use of the
different overall methods of accounting
(e.g., adjustments related to accounts
receivable, accounts payable,
compensation, accrued liabilities, etc.),
regardless of whether a separate line on
Schedule M-3 corresponds to an item
within the accrual to cash reconciliation.
Differences not attributable to the use of
the different overall methods of
accounting must be reported on the
appropriate lines of Schedule M-3 (e.g., a
depreciation difference must be reported
on Part III, line 31).
Example 17. Corporation L is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. L prepares financial
statements in accordance with GAAP
using an overall accrual method of
accounting. L uses an overall cash
method of accounting for U.S. federal
income tax purposes. L’s financial
statements for the year ending December
31, 2006, report accounts receivable of
$35,000, an allowance for bad debts of
$10,000, and accounts payable of
$17,000 related to current year
acquisition and reorganization legal and
accounting fees. In addition, for L’s year
ending December 31, 2006, L reported
financial statement depreciation expense
of $15,000 and depreciation for U.S.
federal income tax purposes of $25,000.
For L’s 2006 tax year using an overall
cash method of accounting, L does not
recognize the $35,000 of revenue
attributable to the accounts receivable,
cannot deduct the $10,000 allowance for
bad debt, and cannot deduct the $17,000
of accounts payable. In its financial
statements, L treats both the difference in
overall accounting methods used for
financial statement and U.S. federal
income tax purposes and the difference in
depreciation expense as temporary
differences. L must combine all
adjustments attributable to the differences
related to the overall accounting methods
on Part II, line 14. As a result, L must
report on Part II, line 14, $8,000 in column
(a) ($35,000 -$10,000 - $17,000),
($8,000) in column (b), and zero in
column (d). L must not report the accrual
to cash adjustment attributable to the
legal and accounting fees on Part III, line
24, Current year acquisition or
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reorganization legal and accounting fees.
Because the difference in depreciation
expense does not relate to the use of the
cash or accrual method of accounting, L
must report the depreciation difference on
Part III, line 31, Depreciation, and report
$15,000 in column (a), $10,000 in column
(b), and $25,000 in column (d).
Line 15. Hedging Transactions
Report on line 15, column (a), the net
gain or loss from hedging transactions
included in net income per the income
statement. Report in column (d) the
amount of taxable income from hedging
transactions as defined in section 1221
(b)(2). Use columns (b) and (c) to report
all differences caused by treating hedging
transactions differently for financial
accounting purposes and for U.S. federal
income tax purposes. For example, if a
portion of a hedge is considered
ineffective under GAAP but still is a valid
hedge under section 1221(b)(2), the
difference must be reported on line 15.
The hedge of a capital asset, which is not
a valid hedge for U.S. federal income tax
purposes but may be considered a hedge
for GAAP purposes, must also be
reported here.
Report hedging gains and losses
computed under the mark-to-market
method of accounting on line 15 and not
on Part II, line 16.
Report any gain or loss from inventory
hedging transactions on line 15 and not
on Part II, line 17.
Line 16. Mark-to-Market Income
(Loss)
Report on line 16 any amount
representing the mark-to-market income
or loss for any securities held by a dealer
in securities, a dealer in commodities
having made a valid election under
section 475(e), or a trader in securities or
commodities having made a valid election
under section 475(f). “Securities” for
these purposes are securities described
in section 475(c)(2) and section 475(e)(2).
“Securities” do not include any items
specifically excluded from sections
475(c)(2) and 475(e)(2), such as certain
contracts to which section 1256(a)
applies.
Report hedging gains and losses
computed under the mark-to-market
method of accounting on Part II, line 15,
Hedging transactions, and not on line 16.
Line 17. Cost of Goods Sold
Report on line 17 any amounts deducted
as part of cost of goods sold during the
tax year, regardless of whether the
amounts would otherwise be reported
elsewhere in Part II or Part III. Examples
of amounts that must be included on line
17 are amounts attributable to inventory
valuation, such as amounts attributable to
cost-flow assumptions, additional costs
required to be capitalized (including
depreciation) such as section 263A costs,
inventory shrinkage accruals, inventory
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obsolescence reserves, and lower of cost
or market (LCM) write-downs.
Line 18. Sale Versus Lease (for
Sellers and/or Lessors)
Do not report the following on this line
17:
• Amounts reportable on Part II, line 12;
• Any gain or loss from inventory hedging
transactions reportable on Part II, line 15;
• Amounts reportable on Part II, line 18;
• Amounts reportable on Part II, line 21;
• Mark-to-market income or (loss)
associated with the inventories of dealers
in securities under section 475, reportable
on Part II, line 16;
• Section 481(a) adjustments related to
cost of goods sold or inventory valuation,
reportable on Part II, line 19;
• Fines and penalties reportable on Part
III, line 12; and
• Judgments, damages, awards and
similar costs, reportable on Part III, line
13.
Note. Also see the instructions at Part III,
line 34, Purchase Versus Lease (for
Purchasers and/or Lessees), on page 20.
Important. Complete and attach Form
8916-A for each item listed in columns (a)
through (d).
Example 18. Corporation C is a
calendar year taxpayer that placed in
service ten depreciable fixed assets in
2000. C was required to file Schedule M-3
for its 2005 tax year and is required to file
Schedule M-3 for its 2006 tax year. C’s
total depreciation expense for its 2006 tax
year for five of the assets is $50,000 for
income statement purposes and $70,000
for U.S. federal income tax purposes. C’s
total annual depreciation expense for its
2006 tax year for the other five assets is
$40,000 for income statement purposes
and $30,000 for U.S. federal income tax
purposes. In addition, C incurs $200 of
meals and entertainment expenses that C
deducts in computing net income per the
income statement. All $200 of the meals
and entertainment expenses is subject to
the 50% limitation under section 274(n).
In its financial statements, C treats the
$50,000 depreciation and $100 of the
meals and entertainment as other costs in
computing cost of goods sold. C must
include on Part II, line 17, in column (a),
the $50,000 of depreciation and $100 of
meals and entertainment. C must also
include a temporary difference of $20,000
in column (b) a permanent difference of
$(50) in column (c) and $70,050 in
column (d) ($70,000 depreciation and $50
meals and entertainment expenses). In
addition, C must report on Part III, line 31,
for its 2006 tax year income statement,
depreciation expense of $40,000 in
column (a), a temporary difference of
$(10,000) in column (b) and $30,000 in
column (d); and on Part III, line 11, meals
and entertainment expense of $100 in
column (a), a permanent difference of
$(50) in column (c), and $50 in column
(d). All other cost of goods sold items
would be added to the amounts included
on Part II, line 17 detailed in this example
and reported on Part II, line 17, in the
appropriate columns.
Asset transfer transactions with
periodic payments characterized for
financial accounting purposes as either a
sale or a lease may, under some
circumstances, be characterized as the
opposite for tax purposes. If the
transaction is treated as a lease, the
seller/lessor reports the periodic
payments as gross rental income and
also reports depreciation expense or
deduction. If the transaction is treated as
a sale, the seller/lessor reports gross
profit (sale price less cost of goods sold)
from the sale of assets and reports the
periodic payments as payments of
principal and interest income.
On Part II, line 18, column (a), report
the gross profit or gross rental income for
financial income purposes for all sale or
lease transactions that must be given the
opposite characterization for tax
purposes. On Part II, line 18, column (d),
report the gross profit or gross rental
income for federal income tax purposes.
Interest income amounts for such
transactions must be reported on Part II,
line 13, in column (a) or (d), as applicable.
Depreciation expense for such
transactions must be reported on Part III,
line 31, in column (a) or (d), as applicable.
Use columns (b) and (c) of Part II, lines
13 and 18, and Part III, line 31, as
applicable to report the differences
between column (a) and (d).
Example 19. Corporation M sells and
leases property to customers. M is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. For financial accounting
purposes, M accounts for each
transaction as a sale. For U.S. federal
income tax purposes, each of M’s
transactions must be treated as a lease.
In its financial statements, M treats the
difference in the financial accounting and
the U.S. federal income tax treatment of
these transactions as temporary. During
2006, M reports in its financial statements
$1,000 of sales and $700 of cost of goods
sold with respect to 2006 lease
transactions. M receives periodic
payments of $500 in 2006 with respect to
these 2006 transactions and similar
transactions from prior years and treats
$400 as principal and $100 as interest
income. For financial income purposes, M
reports gross profit of $300 ($1,000
-$700) and interest income of $100 from
these transactions. For U.S. federal
income tax purposes, M reports $500 of
gross rental income (the periodic
payments) and (based on other facts)
$200 of depreciation deduction on the
property. On its 2006 Schedule M-3, M
must report on Part II, line 13, $100 in
column (a), ($100) in column (b), and
zero in column (d). In addition, M must
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report on Part II, line 18, $300 of gross
profit in column (a), $200 in column (b),
and $500 of gross rental income in
column (d). Lastly, M must report on Part
III, line 31, $200 in column (b) and (d).
Line 19. Section 481(a)
Adjustments
With the exception of a section 481(a)
adjustment that is required to be reported
on Part II, line 12, for reportable
transactions, any difference between an
income or expense item attributable to an
authorized (or unauthorized) change in
method of accounting made for U.S.
federal income tax purposes that results
in a section 481(a) adjustment must be
reported on Part II, line 19, regardless of
whether a separate line for that income or
expense item exists in Part II or Part III.
Example 20. Corporation N is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. N was depreciating certain
fixed assets over an erroneous recovery
period and, effective for its 2006 tax year,
N receives IRS consent to change its
method of accounting for the depreciable
fixed assets and begins using the proper
recovery period. The change in method of
accounting results in a positive section
481(a) adjustment of $100,000 that is
required to be spread over four tax years,
beginning with the 2006 tax year. In its
financial statements, N treats the section
481(a) adjustment as a temporary
difference. N must report on Part II, line
19, $25,000 in columns (b) and (d) for its
2006 tax year and each of the
subsequent three tax years (unless N is
otherwise required to recognize the
remainder of the 481(a) adjustment
earlier). N must not report the section
481(a) adjustment on Part III, line 31.
Line 20. Unearned/Deferred
Revenue
Report on line 20, column (a), amounts of
revenues included in Part I, line 11, that
were deferred from a prior financial
accounting year. Report on line 20,
column (d), amounts of revenues
recognizable for U.S. federal income tax
purposes in the current tax year that are
recognized for financial accounting
purposes in a different year. Also report
on line 20, column (d), any amount of
revenues reported on line 20, column (a),
that are recognizable for U.S. federal
income tax purposes in the current tax
year. Use columns (b) and (c) of line 20,
as applicable, to report the differences
between column (a) and (d).
Line 20 must not be used to report
income recognized from long-term
contracts. Instead, use line 21.
Line 21. Income Recognition
From Long-Term Contracts
Report on line 21 the amount of net
income or loss for financial statement
purposes (or books and records, if
applicable) or U.S. federal income tax
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purposes for any contract accounted for
under a long-term contract method of
accounting.
Line 22. Original Issue Discount
and Other Imputed Interest
Report on line 22 any amounts of original
issue discount (OID) and other imputed
interest. The term “original issue discount
and other imputed interest” includes, but
is not limited to:
1. The difference between issue price
and the stated redemption price at
maturity of a debt instrument, which may
be wholly or partially realized on the
disposition of a debt instrument under
section 1273;
2. Amounts that are imputed interest
on a deferred sales contract under
section 483;
3. Amounts treated as interest or OID
under the stripped bond rules under
Section 1286; and
4. Amounts treated as OID under the
below-market interest rate rules under
Section 7872.
Line 23a. Income Statement
Gain/Loss on Sale, Exchange,
Abandonment, Worthlessness,
or Other Disposition of Assets
Other Than Inventory and PassThrough Entities
Report on line 23a, column (a) all gains
and losses on the disposition of assets
except for (a) gains and losses on the
disposition of inventory, and (b) gains and
losses allocated to the corporation from a
pass-through entity (e.g., on Schedule
K-1) that are included in the net income
(loss) per income statement of includible
corporations reported on Part I, line 11.
Reverse the amount reported in column
(a) in column (b) or (c), as applicable. The
corresponding gains and losses for U.S.
federal income tax purposes are reported
on Part II, lines 23b through 23g, as
applicable.
Line 23b. Gross Capital Gains
From Schedule D, Excluding
Amounts From Pass-Through
Entities
Report on line 23b, gross capital gains
reported on Schedule D (Form 1120),
Capital Gains and Losses, excluding
capital gains from pass-through entities,
which must be reported on Part II, lines 9,
10, or 11, as applicable.
Line 23c. Gross Capital Losses
From Schedule D, Excluding
Amounts From Pass-Through
Entities, Abandonment Losses,
and Worthless Stock Losses
Report on line 23c, gross capital losses
reported on Schedule D (Form 1120),
excluding capital losses from (a)
pass-through entities, which must be
reported on Part II, lines 9, 10 or 11, as
applicable; (b) abandonment losses,
which must be reported on Part II, line
23e; and (c) worthless stock losses,
which must be reported on Part II, line
23f. Do not report on line 23c capital
losses carried over from a prior tax year
and utilized in the current tax year. See
the instructions for Part II, line 24,
regarding the reporting requirements for
capital loss carryovers utilized in the
current tax year.
Line 23d. Net Gain/Loss
Reported on Form 4797, Line
17, Excluding Amounts From
Pass-Through Entities,
Abandonment Losses, and
Worthless Stock Losses
Report on line 23d the net gain or loss
reported on line 17 of Form 4797, Sales
of Business Property, excluding amounts
from (a) pass-through entities, which must
be reported on Part II, lines 9, 10, or 11,
as applicable; (b) abandonment losses,
which must be reported on Part II, line
23e; and (c) worthless stock losses,
which must be reported on Part II, line
23f.
Line 23e. Abandonment Losses
Report on line 23e any abandonment
losses, regardless of whether the loss is
characterized as an ordinary loss or a
capital loss.
Line 23f. Worthless Stock
Losses
Report on line 23f any worthless stock
loss, regardless of whether the loss is
characterized as an ordinary loss or a
capital loss. Attach a schedule that
separately states and adequately
discloses each transaction that gives rise
to a worthless stock loss and the amount
of each loss.
Line 23g. Other Gain/Loss on
Disposition of Assets Other
Than Inventory
Report on line 23g any gains or losses
from the sale or exchange of property
other than inventory and that are not
reported on lines 23b through 23f.
Line 24. Capital Loss Limitation
and Carryforward Used
Report as a positive amount on line 24,
columns (b) or (c), as applicable, and (d)
the excess of the net capital losses over
the net capital gains reported on
Schedule D (Form 1120) by the
corporation. For a U.S. consolidated tax
group, the Schedule M-3 adjustment for
the amount of the consolidated net capital
loss that is disallowed should not be
made on the separate consolidating
Schedules M-3 of the includible
corporations, but on the separate
Schedule M-3 for consolidated
eliminations (or on Form 8916 in the case
of a mixed group) as described under,
Completion of Schedule M-3 and Certain
Allocations, Limitations, and Carryovers
on page 5.
If the corporation utilizes a capital loss
carryforward on Schedule D in the current
tax year, report the carryforward utilized
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as a negative amount on Part II, line 24,
columns (b) or (c), as applicable, and
column (d). For a U.S. consolidated tax
group, the Schedule M-3 adjustment for
the amount of the consolidated capital
loss carryforward should not be made on
the separate consolidating Schedules M-3
of the includible corporations, but on the
separate Schedule M-3 for consolidation
eliminations (or on Form 8916 in the case
of a mixed group) as described under
Completion of Schedule M-3 and Certain
Allocations, Limitations, and Carryovers
on page 5.
Line 25. Other Income (Loss)
Items With Differences
Separately state and adequately disclose
on Part II, line 25, all items of income
(loss) with differences that are not
otherwise listed on Part II, lines 1 through
24. Attach a schedule that itemizes the
type of income (loss) and the amount of
each item.
If any “comprehensive income” as
defined by Statement of Financial
Accounting Standards (SFAS) No. 130 is
reported on this line, describe the item(s)
in detail. Examples of sufficiently detailed
descriptions include “Foreign currency
translation adjustments” and “gains and
losses on available-for-sale securities.”
Whether an item of income (loss) is
reported on line 25, or is reported on Part
II, line 28, is determined separately by
each member of the U.S. consolidated tax
group and not at the U.S. consolidated
tax group level. For example, U.S.
Corporation P has two subsidiaries,
Corporation A and B, that are included in
P’s consolidated financial statements and
in P’s consolidated U.S. federal income
tax return. For financial statement
purposes, P, A, and B recognize revenue
from the sale of inventory upon delivery to
the customer. For U.S. federal income tax
purposes, P and A recognize such
revenue consistent with the method used
for financial statement purposes, whereas
B recognizes such revenue based upon
customer acceptance. P and A must
report this revenue in column (a) and (d)
on Part II, line 28. B must report the
following on Part II, line 25: in column (a),
B’s revenue recognized in the financial
statements based upon delivery to the
customer; in column (d), B’s revenue
recognized for U.S. federal income tax
purposes based upon customer
acceptance; and in column (b) or (c), as
applicable, the difference between B’s
revenue recognized in its financial
statements and in its U.S. federal taxable
income.
Line 27. Total Expense/
Deduction Items
Report on Part II, line 27, columns (a)
through (d), as applicable, the negative of
the amounts reported on Part III, line 36,
columns (a) through (d). For example, if
Part III, line 36, column (a), reflects an
amount of $1 million, then report on Part
II, line 27, column (a), ($1 million).
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Similarly, if Part III, line 36, column (b),
reflects an amount of ($50,000), then
report on Part II, line 27, column (b),
$50,000.
Line 28. Other Items With No
Differences
If there is no difference between the
financial accounting amount and the
taxable amount of an entire item of
income, gain, loss, expense, or deduction
and the item is not described or included
in Part II, lines 1 through 25, or Part III,
lines 1 through 35, report the entire
amount of the item in columns (a) and (d)
of line 28. If a portion of an item of
income, loss, expense, or deduction has
a difference and a portion of the item
does not have a difference, do not report
any portion of the item on line 28. Instead,
report the entire amount of the item (i.e.,
both the portion with a difference and the
portion without a difference) on the
applicable line of Part II, lines 1 through
25, or Part III, lines 1 through 35. See
Example 11 on page 12.
Line 29a. 1120 subgroup
reconciliation totals
Add lines 26 through 28.
Line 29b. PC insurance
subgroup reconciliation totals
Line 29b is only used by mixed groups.
See Schedule M-3 Consolidation for
Mixed Groups (1120/L/PC) on page 4.
Line 29c. Life insurance
subgroub reconciliation totals
Line 29c is only used by mixed groups.
See Schedule M-3 Consolidation for
Mixed Groups (1120/L/PC) on page 4.
Line 30. Reconciliation Totals.
Combine lines 29a through 29c
If a corporation that is not a mixed group
chooses not to complete columns (a) and
(d) of Parts II and III in the first tax year
the corporation is required to file
Schedule M-3 (or for any year in which
the corporation voluntarily files Schedule
M-3), Part II, line 30, is reconciled by the
corporation (or, in the case of a U.S.
consolidated tax group, on the group’s
consolidated Schedule M-3) in the
following manner:
1. Report the amount from Part I, line
11, on Part II, line 30, column (a);
2. Leave blank Part II, lines 1 through
29, columns (a) and (d);
3. Leave blank Part III, columns (a)
and (d); and
4. Report on Part II, line 30, column
(d), the sum of Part II, line 30, columns
(a), (b), and (c).
Note. Mixed groups see Schedule M-3
Consolidation for Mixed Groups (1120/L/
PC) on page 4.
Part III. Reconciliation of
Net Income (Loss) per
Income Statement of
Includible Corporations
With Taxable Income per
Return—Expense/
Deduction Items
Lines 1 Through 6. Income Tax
Expense
If the corporation does not distinguish
between current and deferred income tax
expense in its financial statements (or its
books and records, if applicable), report
income tax expense as current income
tax expense using lines 1, 3, and 5, as
applicable.
A U.S. consolidated tax group must
complete lines 1 through 6 in accordance
with the allocation of tax expense among
the members of the U.S. consolidated tax
group in the financial statements (or its
books and records, if applicable). If the
current and deferred U.S., state, and
foreign income tax expense for the U.S.
consolidated tax group (income tax
expense) is allocated among the
members of the U.S. consolidated tax
group in the group’s financial statements
(or its books and records, if applicable),
then each member must report its
allocated income tax expense on Part III,
lines 1 through 6, of that member’s
separate Schedule M-3. However, if the
income tax expense is not shared or
allocated among members of the U.S.
consolidated tax group but is retained in
the parent corporation’s financial
statements (or books and records, if
applicable), then amounts are reported
only on Part III, lines 1 through 6, of the
parent’s separate Schedule M-3.
Line 7. Foreign Withholding
Taxes
Report on line 7, column (a), the amount
of foreign withholding taxes included in
financial accounting net income on Part I,
line 11. If the corporation is deducting
foreign tax, use column (b) or (c), as
applicable, to correct for any difference
between foreign withholding tax included
in financial accounting net income and the
amount of foreign withholding taxes being
deducted in the return. If the corporation
is crediting foreign withholding taxes
against the U.S. income tax liability, use
column (b) or (c), as applicable, to negate
the amount reported in column (a).
Line 8. Interest Expense
Report on Part III, line 8, column (a), the
total amount of interest expense included
on Part I, line 11, and report on Part III,
line 8, column (d), the total amount of
interest deduction included on Form
1120, page 1, line 28, that is not required
to be reported elsewhere on Schedule
M-3. In columns (b) or (c), as applicable,
include any adjustments for any amounts
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treated for U.S. federal income tax
purposes as interest deduction that are
treated as some other form of expense in
the financial statements, or vice versa.
For example, adjustments to interest
expense/deduction resulting from
adjustments made in accordance with the
instructions for Part III, line 34, Purchase
versus lease (for purchasers and/or
lessees), should be made in columns (b)
and (c), as applicable, on this line 8.
Do not report on this line 8 amounts
reported in accordance with the
instructions for (1) Part II, lines 9, 10, and
11, Income (loss) from U.S. partnerships,
foreign partnerships, and other
pass-through entities, and (2) Part II, line
12, Items relating to reportable
transactions.
Line 9. Stock Option Expense
Report on line 9, column (a), amounts
expensed on Part I, line 11, net income
per the income statement, that are
attributable to all stock options. Report on
line 9, column (d), deduction amounts
attributable to all stock options.
Line 10. Other Equity-Based
Compensation
Report on line 10 any amounts for
equity-based compensation or
consideration that are reflected as
expense in the financial statements
(column (a)) or deducted in the U.S.
federal income tax return (column (d))
other than amounts reportable elsewhere
on Schedule M-3, Parts II and III (e.g., on
Part III, line 9, for stock options expense).
Examples of amounts reportable on line
10 include payments attributable to
employee stock purchase plans (ESPPs),
phantom stock options, phantom stock
units, stock warrants, stock appreciation
rights, and restricted stock, regardless of
whether such payments are made to
employees or non-employees, or as
payment for property or compensation for
services.
Line 11. Meals and
Entertainment
Report on line 11, column (a), any
amounts paid or accrued by the
corporation during the tax year for meals,
beverages, and entertainment that are
accounted for in financial accounting
income, regardless of the classification,
nomenclature, or terminology used for
such amounts, and regardless of how or
where such amounts are classified in the
corporation’s financial income statement
or the income and expense accounts
maintained in the corporation’s books and
records. Report only amounts not
otherwise reportable elsewhere on
Schedule M-3, Parts II and III (e.g., Part
II, line 17).
Line 12. Fines and Penalties
Report on line 12 any fines or similar
penalties paid to a government or other
authority for the violation of any law for
which fines or penalties are assessed. All
fines and penalties expensed in financial
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accounting income (paid or accrued) must
be included on this line 12, column (a),
regardless of the government or other
authority that imposed the fines or
penalties, regardless of whether the fines
and penalties are civil or criminal,
regardless of the classification,
nomenclature, or terminology used for the
fines or penalties by the imposing
authority in its actions or documents, and
regardless of how or where the fines or
penalties are classified in the
corporation’s financial income statement
or the income and expense accounts
maintained in the corporation’s books and
records. Also report on line 12, column (a)
the reversal of any overaccrual of any
amount described in this paragraph. See
section 162(f) for additional guidance.
Report on line 12, column (d), any
such amounts as are described in the
preceding paragraph that are includible in
taxable income, regardless of the
financial accounting period in which such
amounts were or are included in financial
accounting net income. Complete
columns (b) and (c) as appropriate.
Do not report on this Part III, line 12,
amounts required to be reported in
accordance with instructions for Part III,
line 13.
Do not report on this Part III, line 12,
amounts recovered from insurers or any
other indemnitors for any fines and
penalties described above.
Line 13. Judgments, Damages,
Awards, and Similar Costs
Report on line 13, column (a), the amount
of any estimated or actual judgments,
damages, awards, settlements, and
similar costs, however named or
classified, included in financial accounting
income, regardless of whether the
amount deducted was attributable to an
estimate of future anticipated payments or
actual payments. Also report on line 13,
column (a) the reversal of any
overaccrual of any amount described in
this paragraph.
Report on line 13, column (d), any
such amounts as are described in the
preceding paragraph that are includible in
taxable income, regardless of the
financial accounting period in which such
amounts were or are included in financial
accounting net income. Complete
columns (b) and (c) as appropriate.
Do not report on this Part III, line 13,
amounts required to be reported in
accordance with instructions for Part III,
line 12.
Do not report on this Part III, line 13,
amounts recovered from insurers or any
other indemnitors for any judgments,
damages, awards, or similar costs
described above.
Line 14. Parachute Payments
Report on line 14, column (a), the total
expense included in financial accounting
net income on Part I, line 11, that is
subject to section 280G. Report in column
(b) or (c), as applicable, the amount of
nondeductible parachute payments
pursuant to section 280G, and report in
column (d) the deductible amount of
compensation after any excess parachute
payment limitations under section 280G.
If a payment is subject to limitation under
both sections 162(m) and 280G, report
the total payment on this line 14.
• Conservation easements (including
scenic easements or air rights);
• Railroad rights of way;
• Mineral rights; and
• Other intangible property.
Line 21. Charitable Contribution
Limitation/Carryforward
Report on line 16 any amounts
attributable to the corporation’s pension
plans, profit-sharing plans, and any other
retirement plans.
Report as a negative amount on this line
21, columns (b), (c), and (d) as
applicable, the excess of charitable
contributions made during the tax year
over the amount of the charitable
contribution limitation amount.
If the corporation utilizes a contribution
carryforward in the current tax year,
report the carryforward utilized as a
positive amount on columns (b), (c), and
(d), as applicable.
When a consolidated federal income
tax return is being filed, Schedule M-3
adjustments for the amount of charitable
contributions in excess of the limitation, or
for charitable contribution carryforward
utilized, should not be made on the
separate consolidating Schedules M-3 of
the includible corporations, but on the
separate consolidating Schedule M-3 for
consolidation eliminations (or on Form
8916 in the case of a mixed group). See
Completion of Schedule M-3 and Certain
Allocations, Limitations, and Carryovers
on page 5.
Line 17. Other Post-Retirement
Benefits
Line 22. Domestic Production
Activities Deduction
Report on line 17 any amounts
attributable to other post-retirement
benefits not otherwise includible on Part
III, line 16 (for example, retiree health and
life insurance coverage, dental coverage,
etc.).
Report on Part III, line 22, column (d), the
corporation’s domestic production
activities deduction under section 199 that
is reported on Form 1120, page 1, line 25.
Complete columns (b) and (c) as
appropriate. Do not report any portion of
the corporation’s domestic production
activities deduction on any other line of
Schedule M-3.
Line 15. Compensation With
Section 162(m) Limitation
Report on line 15, column (a), the total
amount of non-performance-based
current compensation expense for the
corporate officers to whom section
162(m) applies. Report the nondeductible
amount of current compensation in
excess of $1 million in column (b) or (c),
as applicable, and the deductible
compensation in column (d). If a payment
is subject to limitation under both sections
162(m) and 280G, report the total
payment on Part III, line 14, Parachute
payments. See Regulations section
1.162-27(g) for the interaction between
sections 162(m) and 280G.
Line 16. Pension and
Profit-Sharing
Line 18. Deferred
Compensation
Report on line 18, column (a), any
compensation expense included in the
net income (loss) amount reported in Part
I, line 11, that is not deductible for U.S.
federal income tax purposes in the
current tax year and that was not reported
elsewhere on Schedule M-3, column (a).
Report on line 18, column (d), any
compensation deductible in the current
tax year that was not included in the net
income (loss) amount reported in Part I,
line 11 for the current tax year and that is
not reportable elsewhere on Schedule
M-3. For example, report originations and
reversals of deferred compensation
subject to section 409A on line 18.
Line 20. Charitable Contribution
of Intangible Property
Report on line 20 any charitable
contribution of intangible property, for
example, contributions of:
• Intellectual property, patents (including
any amounts of additional contributions
allowable by virtue of income earned by
donees subsequent to the year of
donation), copyrights, trademarks;
• Securities (including stocks and their
derivatives, stock options, and bonds);
Instructions for Schedule M-3 (Form 1120)
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Line 23. Current Year
Acquisition or Reorganization
Investment Banking Fees
Report on line 23 any investment banking
fees paid or incurred in connection with a
taxable or tax-free acquisition of property
(e.g., stock or assets) or a tax-free
reorganization. Report on this line any
investment banking fees incurred at any
stage of the acquisition or reorganization
process including, for example, fees paid
or incurred to evaluate whether to
investigate an acquisition, fees to conduct
an actual investigation, and fees to
consummate the acquisition. Also include
on this line 23 investment banking fees
incurred in connection with the liquidation
of a subsidiary, a spin-off of a subsidiary,
or an initial public stock offering.
Line 24. Current Year
Acquisition or Reorganization
Legal and Accounting Fees
Report on line 24 any legal and
accounting fees paid or incurred in
connection with a taxable or tax-free
acquisition of property (e.g., stock or
assets) or tax-free reorganization. Report
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on this line any legal and accounting fees
incurred at any stage of the acquisition or
reorganization process including, for
example, fees paid or incurred to evaluate
whether to investigate an acquisition, fees
to conduct an actual investigation, and
fees to consummate the acquisition. Also
include on this line legal and accounting
fees incurred in connection with the
liquidation of a subsidiary, a spin-off of a
subsidiary, or an initial public stock
offering.
Line 25. Current Year
Acquisition/Reorganization
Other Costs
Report on line 25 any other fees paid or
incurred in connection with a taxable or
tax-free acquisition of property (e.g., stock
or assets) or a tax-free reorganization not
otherwise reportable on Schedule M-3
(e.g., Part III, line 23 or 24). Report on
this line any fees paid or incurred at any
stage of the acquisition or reorganization
process including, for example, fees paid
or incurred to evaluate whether to
investigate an acquisition, fees to conduct
an actual investigation, and fees to
consummate the acquisition. Also include
on this line other acquisition/
reorganization costs incurred in
connection with the liquidation of a
subsidiary, a spin-off of a subsidiary, or
an initial public stock offering.
Line 26. Amortization/
Impairment of Goodwill
Report on line 26 amortization of goodwill
or amounts attributable to the impairment
of goodwill.
Line 27. Amortization of
Acquisition, Reorganization,
and Start-Up Costs
Report on line 27 amortization of
acquisition, reorganization, and start-up
costs. For purposes of column (b), (c),
and (d), include amounts amortizable
under section 167, 195, or 248.
Line 28. Other Amortization or
Impairment Write-Offs
Report on line 28 any amortization or
impairment write-offs not otherwise
includible on Schedule M-3.
Line 29. Section 198
Environmental Remediation
Costs
Report on line 29, column (a), any
amounts attributable to environmental
remediation costs included in the net
income per the income statement. Report
in columns (b), (c), and (d), as applicable,
any deductible amounts attributable to
environmental remediation costs
described in section 198 that are paid or
incurred during the current tax year.
Line 31. Depreciation
Report on line 31 any depreciation
expense that is not required to be
reported elsewhere on Schedule M-3
(e.g., on Part II, lines, 9, 10, 11, or 17).
Line 32. Bad Debt Expense
Report on line 32, column (a), any
amounts attributable to an allowance for
uncollectible accounts receivable or
actual write-offs of accounts receivable
included in net income per the income
statement. Report in column (d) the
amount of bad debt expense deductible
for federal income tax purposes under
section 166.
Line 33. Corporate Owned Life
Insurance Premiums
Report on line 33 all amounts of
insurance premiums attributable to any
life insurance policy if the corporation is
directly or indirectly a beneficiary under
the policy or if the policy has a cash
value. Report in column (d) the amount of
the premiums that are deductible for
federal income tax purposes.
Line 34. Purchase Versus Lease
(for Purchasers and/or
Lessees)
the periodic payments it makes partially
as payment of principal and partially as
payment of interest. In its financial
statements, X treats the difference
between the financial accounting and
U.S. federal income tax treatment of this
transaction as a temporary difference.
During 2006, X reports in its financial
statements $1,000 of gross rental
expense that, for U.S. federal income tax
purposes, is recharacterized as a $700
payment of principal and a $300 payment
of interest, accompanied by a
depreciation deduction of $1,200 (based
on other facts). On its 2006 Schedule
M-3, X must report the following on Part
III, line 34: column (a) $1,000, its financial
accounting gross rental expense; column
(b), ($1,000); and column (d), zero. On
Part III, line 8, X reports zero in column
(a) and $300 in columns (b) and (d) for
the interest deduction. On Part III, line 31,
X reports zero in column (a) and $1,200
in columns (b) and (d) for the depreciation
deduction.
Note. Also see the instructions at Part II,
line 18, on page 16 for sellers and/or
lessors.
Line 35. Other Expense/
Deduction Items With
Differences
Asset transfer transactions with
periodic payments characterized for
financial accounting purposes as either a
purchase or a lease may, under some
circumstances, be characterized as the
opposite for tax purposes.
If a transaction is treated as a lease,
the purchaser/lessee reports the periodic
payments as gross rental expense. If the
transaction is treated as a purchase, the
purchaser/lessee reports the periodic
payments as payments of principal and
interest and also reports depreciation
expense or deduction with respect to the
purchased asset.
Report in column (a), gross rent
expense for a transaction treated as a
lease for income statement purposes but
as a sale for U.S. federal income tax
purposes. Report in column (d), gross
rental deductions for a transaction treated
as a lease for U.S. federal income tax
purposes but as a purchase for income
statement purposes. Report interest
expense for such transactions on Part III,
line 8, in column (a) or (d), as applicable.
Report depreciation expense or
deductions for such transactions on Part
III, line 31, in column (a) or (d), as
applicable. Use columns (b) and (c) of
Part III, lines 8, 31, and 34, as applicable,
to report the differences between column
(a) and (d) for such recharacterized
transactions.
Example 21. U.S. corporation X
acquired property in a transaction that, for
financial accounting purposes, X treats as
a lease. X is a calendar year taxpayer
that was required to file Schedule M-3 for
its 2005 tax year and is required to file
Schedule M-3 for its 2006 tax year. For
U.S. federal income tax purposes,
because of its terms, the transaction is
treated for U.S. federal income tax
purposes as a purchase and X must treat
Report on Part III, line 35, all items of
expense/deduction that are not otherwise
listed on Part III, lines 1 through 34.
Whether an expense/deduction item is
reported on this line 35, or reported on
Part II, line 28, is determined separately
by each member of the U.S. consolidated
tax group and not at the U.S.
consolidated tax group level. For
example, U.S. Corporation P has two
subsidiaries, A and B, that are included in
P’s consolidated financial statements and
in P’s consolidated U.S. federal income
tax return. For financial statement
purposes, P, A, and B recognize real
estate tax expense when accrued. For
U.S. federal income tax purposes, P and
A recognize such expense consistent with
the method used for financial statement
purposes, whereas B recognizes such
deduction based on a method different
from that used for financial statement
purposes. P and A must report this
expense/deduction in column (a) and (d)
on Part II, line 28. B must report the
following on Part III, line 35 in column (a),
B’s expense recognized in the financial
statements when accrued; in column (d),
B’s real estate tax expense recognized for
U.S. federal income tax purposes; and in
column (b) or (c), as applicable, the
difference between B’s real estate tax
expense in its financial statements and its
real estate tax deduction recognized for
U.S. federal taxable income purposes.
Comprehensive income. If any
“comprehensive income” as defined by
SFAS No. 130 is reported on this line,
describe the item(s) in detail as, for
example, “Foreign currency translation
adjustments” and “Gains and losses on
available-for-sale securities.”
Reserves and contingent liabilities.
Report on line 35 amounts related to the
change in each reserve or contingent
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liability that is not required to be reported
elsewhere on Schedule M-3. For
example, amounts relating to changes in
reserves for litigation must be reported on
Part III, line 13, and amounts relating to
changes in reserves for uncollectible
accounts receivable must be reported on
Part III, line 32. See Examples 9, 21, and
22.
Report on Part III, line 35, the
amortization of various items of prepaid
expense, such as prepaid subscriptions
and license fees, prepaid insurance, etc.
Report on line 35, column (a),
expenses included in net income reported
on Part I, line 11, that are related to
reserves and contingent liabilities. Report
on line 35, column (d), amounts related to
liabilities for reserves and contingent
liabilities that are deductible in the current
tax year for U.S. federal income tax
purposes. Examples of items that must be
reported on line 35 include warranty
reserves, restructuring reserves, reserves
for discontinued operations, and reserves
for acquisitions and dispositions. Only
report on line 35 items that are not
required to be reported elsewhere on
Schedule M-3, Parts II and III. For
example, the expense for a reserve for
inventory obsolescence must be reported
on Part II, line 17.
The schedule of details attached to the
return for line 35 must separately state
and adequately disclose the nature and
amount of the expense related to each
reserve and/or contingent liability. The
appropriate level of disclosure depends
upon each taxpayer’s operational activity
and the nature of its accounting records.
For example, if a corporation’s net income
amount reported in the income statement
includes anticipated expenses for a
discontinued operation as a single
amount, and its general ledger or other
books, records, and workpapers provide
details for the anticipated expenses under
more explanatory and defined categories
such as employee termination costs,
lease cancellation costs, loss on sale of
equipment, etc., a supporting schedule
that lists those categories of expenses
and their details will satisfy the
requirement to separately state and
adequately disclose. In order to
separately state and adequately disclose
the employee termination costs, it is not
required that an anticipated termination
cost amount be listed for each employee,
or that each asset (or category of asset)
be listed along with the anticipated loss
on disposition.
Example 22. Corporation Q is a
calendar year taxpayer that was required
to file Schedule M-3 for its 2005 tax year
and is required to file Schedule M-3 for its
2006 tax year. On July 1 of each year, Q
has a fixed liability for its annual
insurance premiums that provides a
12-month coverage period beginning July
1 through June 30. In addition, Q
historically prepays 12 months of
advertising expense on July 1. On July 1,
2006, Q prepays its insurance premium of
Instructions for Schedule M-3 (Form 1120)
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$500,000 and advertising expenses of
$800,000. For financial statement
purposes, Q capitalizes and amortizes the
prepaid insurance and advertising over 12
months. For U.S. federal income tax
purposes, Q deducts the insurance
premium when paid and amortizes the
advertising over the 12-month period. In
its financial statements, Q treats the
differences attributable to the financial
statement treatment and U.S. federal
income tax treatment of the prepaid
insurance and advertising as temporary
differences. Q must separately state and
adequately disclose on Part III, line 35, its
prepaid insurance premium and report
$250,000 in column (a) ($500,000/12
months X 6 months), $250,000 in column
(b), and $500,000 in column (d). Q must
also separately state and adequately
disclose on Part II, line 28, its prepaid
advertising and report $400,000 in
column (a) and (d).
Line 36. Total Expense/
Deduction Items
Report on Part II, line 27, columns (a)
though (d), as applicable, the negative of
the amounts reported on Part III, line 36,
column (a) through (d), as applicable. For
example, if Part III, line 36, column (a),
reflects an amount of $1 million, then
report on Part II, line 27, column (a), ($1
million). Similarly, if Part III, line 36,
column (b), reflects an amount of
($50,000), then report on Part II, line 27,
column (b), $50,000.
| File Type | application/pdf |
| File Title | 2006 Instruction 1120 Schedule M-3 |
| Subject | Instructions for Schedule M-3 (Form 1120) |
| Author | W:CAR:MP:FP |
| File Modified | 2007-02-23 |
| File Created | 2007-02-23 |