line of credit transfer in related s corporations

My client is a general contractor and 100% owner/sole shareholder of two S corporations. One sells the products, and the other S corporation does the installation or labor. Both S corporations had a Line of Credit with the Bank. My client refinanced the lines of credit with a new bank. The bank took the line of credit owing to one of the S corporations and paid the original lender. The LOC that was paid off was added to the LOC of the second S corporation. The end result was that the one S corporation now had the sole obligation of paying the two combined LOCs. Is there a taxable event?

Depends...

From one perspective, the s-corp has a receivable from the other for the funds it paid to retire the LOC. = no taxable event.
From another perspective, you could argue that he took a constructive distribution from one s-corp and contributed funds to the other to extinguish the debt. Assuming there is sufficient basis in the first to support the distribution, this wouldn't be a taxable event. If there isn't basis to support this distribution, then it would be a taxable event.

And another perspective is that the IRS and courts aren't inclined to determine that a constructive dividend occurred. In fact they'll say the opposite that the shareholder doesn't get basis increase for the loan from related party S corp. The tax court just made such a decision with the last two weeks.

This might be the case to which Terry refers. https://www.ustaxcourt.gov/ustcinop/Opi ... x?ID=11558

It indeed can lead to an adverse conclusion for OP's facts. OTOH, the case does a reasonable job of laying out the reasoning on which the court decided, and that analysis can be a road map to avoiding all the problems.

the company's whose LOC was paid and then assumed by the other S corporation has no basis. No basis to support the distribution of the LOC. The LOC is now paid, the a new loan was created by the other S corporation that actually represents the paid off debt.

I need to fix this?

I am not clear on the set up the receivable idea from the assuming S corporation? Set up a receivable from the company that had the LOC paid off? I am not sure how I can get the receivable paid. The payable that the S corporation would have is in actuality the LOC; correct?

Can I have the bank re-do the debt? Separate the debt as was originally the case. Have the two S corporations pay their own LOC to the new bank? I suppose this can be structured, but my client did this 4 months ago?

I appreciate the input. Thanks

does anyone have a thought as to having the bank separate back out the two LOCs?