2.4 Certain Entities Exempt From Income Taxes on the Basis of Legal Form
The legal form established for an entity may govern whether the
entity is taxable or tax-exempt. Many entities are exempt from paying taxes because
they qualify as either tax-exempt (e.g., not-for-profit organization) or
pass-through entities (e.g., Subchapter S corporation, partnership, and certain
LLCs) or because they function similarly to pass-through entities (e.g., real estate
investment trusts [REITs] or regulated investment companies). To qualify for
tax-exempt or pass-through treatment, such entities must meet certain conditions
under the relevant tax law. According to the definition of a tax position in ASC
740-10-20, the recognition and measurement of a decision to classify an entity as
tax-exempt should be evaluated under ASC 740. See Section 4.1.2.1 for additional discussion of
the evaluation of an entity’s tax-exempt status.
In addition, an entity may change its tax status, which may affect
its designation as either a taxable or nontaxable entity. Changes in tax status can
be voluntary or involuntary, and the accounting treatment for each may be different.
See Section 3.5.2 for
further discussion of an entity’s change in tax status.