What is a Consolidated Tax Return?

Consolidated tax returns are a means of allowing corporations that are all part of an affiliated group to file one return for the annual period, rather than each entity filing separately. The ability to file together depends on the exact nature of the connection between the parent organization and any subsidiaries that make up the group. Along with simplifying the tax reporting process, consolidation sometimes makes it possible for conglomerates and other affiliated groups to take advantage of certain tax breaks that would not be possible with individual filings.

The history of the consolidated tax return in the United States goes back to the early 20th century. During this period, the government sought ways to limit corporations from avoiding the payment of taxes by shifting what were thought to be excess profits from one highly profitable subsidiary to another member of the corporate family that was operating at a small profit or even a loss. By 1917, the Commissioner of the Internal Revenue Service has developed the consolidated format as a means of preventing this shifting of profits.

The end result is that corporation families that included multiple corporations could file as one entity and be assessed taxes on the overall profit generated by the parent and all the subsidiaries. This arrangement was understood to be equitable for the purposes of determining the overall tax liability without creating an unrealistic burden for any business entity. By 1918, Congress made this type of return mandatory in order to ensure compliance with laws concerning income tax as well as excess profit taxes.

After the end of World War I, excess profit taxes were repealed, and the main purpose of the consolidated tax return ceased to exist. Congress repealed laws mandating its use, but the Great Depression led to a resurgence in interest in this form of tax filing, since the practice of routing profits through unprofitable subsidiaries again became somewhat common. In 1942, Congress again made it possible for businesses to file consolidated returns, which helped to minimize the funneling activity.

The function of the consolidated tax return has been more or less constant since the 1940s. For a time, there was a 2% penalty imposed on consolidated taxable income, but that penalty was repealed in 1964. Currently, corporate structures that include a parent company and subsidiaries are free to make use of this form or file as individual entities.