Combined reporting jurisdictions (e.g., New York, New York City, and Connecticut) allow a newly acquired subsidiary to be included in the combined reports of both selling and/or acquiring groups in the year of acquisition and/or disposition (the general rule, discussed above) but only to the extent the entity is engaged in a unitary business. New Jersey has also adopted the general rule as stated above. In certain unusual circumstances, however, New Jersey permits a newly acquired subsidiary to file a single return Drake Bakeries, Inc. v. Taxation Div. Director; 12 NJ Tax 172 (1991).

For states that allow net operating loss ("NOL") carrybacks and/or carryforwards, there seems to be a lack of consistency regarding the treatment of the newly acquired corporation's preacquisition and postacquisition NOLs.

For separate state reporting purposes, IRC Sec. 382 limitations may apply where there has been a change of ownership greater than 50%, if the state has adopted Federal rules for computing NOLs, does not have separate NOL provisions, or begins the computation of state taxable income with line 30 of the Federal tax return.

For combined reporting purposes, the limitations on the utilization of preacquisition NOLs of a newly acquired corporation may arise not only from IRC Sec. 382 limitations but also from separate return limitation year ("SRLY") limitations and from the underlying requirement that the corporation must have incurred the loss in a year where the corporation was subject to tax in that given state.

For New York State reporting purposes, short period returns must be filed in the following circumstances:

* A newly organized corporation whose first taxable year is less than 12 months;

* A foreign corporation (i.e., a corporation incorporated in a state other than New York) that first becomes subject to New York tax after the start of its Federal tax year;

* A corporation that dissolves, merges, or otherwise ceases being subject to tax before the end of its Federal tax year;

* A corporation that changes its Federal tax year; or

* A corporation that joins or separates from a Federal consolidated group or changes from one consolidated group to another.

Where the sale of a subsidiary arises as a result of IRC Sec. 338(h)(10) transaction, the resulting short period treatment for New York, which adopts Federal tax treatment TSB-M-91(4)(C) is that the target corporation should file two franchise tax reports. The first of these ends on the acquisition date and includes the day on which the deemed sale of the target's assets occurred. This return would be included in the selling corporation's New York combined report for that period if a combined report was fried. The second period would be filed by the purchasing corporation covering the activities of the acquired corporation from the date of the acquisition to the end of the taxable year.

New York State adopts IRC Sec. 382 rules regarding the treatment of preacquisition NOLs (N.Y. Tax Law Sec. 208). Additionally, New York requires the corporation to be subject to tax in New York for the year that the underlying loss was incurred in order for the corporation to be able to claim an NOL deduction.

For New York City reporting purposes, there are no regulations regarding short period filing. There is a ruling 7(No. 1) Dept. Fin. Bull. 3 (Mar. 1976), however, that follows the same requirements as New York State. Additionally, New York City utilizes New York State's treatment regarding IRC Sec. 338(h)(10) transactions (Ruling No. X-2-006-001). New York City similarly follows New York State for IRC Sec. 382 purposes, and to the extent that any NOL deduction is claimed, it must have arisen in a tax year in which the taxpayer was subject to New York City tax.

For Connecticut reporting purposes, since there are no regulations regarding short period filing, Federal tax treatment should be observed. In addition, Connecticut adopts Federal tax treatment of IRC Sec. 338(h)(10) transactions Dept. Rev. Services Bull. 29 (Mar. 1986). Connecticut statutes do not contain any reference to the loss limitation provisions of IRC Sec. 382.

For New Jersey reporting purposes, a taxpayer must file a return for any period during which it has or had taxable status in New Jersey. Some circumstances that require the filing of a short period return are -

* a newly formed corporation;

* a foreign corporation that acquires taxable status in New Jersey after the start of its Federal tax year;

* a corporation that dissolves, merges, consolidates, withdraws, surrenders, or otherwise ceases to have taxable status in New Jersey prior to the close of its Federal tax year;

* a corporation that changes its accounting period; and

* a corporation that has made a Federal election under IRC Sec. 338(h)(10).

New Jersey does not recognize the concept of IRC Sec. 338(h)(10). New Jersey requires the parent corporation (if it is a New Jersey taxpayer) to report the gain or loss on the sale of stock of the subsidiary and the subsidiary to report the gain or loss from the deemed asset sale. In addition to the preacquisition and postacquisition tax returns, a one- day return to report the gain from sale and the stepped-up basis of the assets must be filed by the subsidiary.

New Jersey's statute regarding a preacquisition NOL of a newly acquired corporation provides for complete extinguishment if there is a 50% or more ownership change and the corporation changes the business that gave rise to the loss. New Jersey's regulations Sec. 18:7-5.13(b) provide for no exceptions, even where the merger is accomplished with a shell corporation utilized solely for the purpose of changing the loss corporation's state of incorporation. The New Jersey superior Court, however, recently took exception to the New Jersey regulations, deeming them arbitrary, capricious, and unreasonable (Richards Auto City v. Taxation Div. Director, Sup. Ct. App. Div., Docket # A-2194-92TI).