What Is a Brother Sister Controlled Group?
Learn how shared ownership between businesses can require them to be treated as a single employer for critical tax and employee benefit plan regulations.
A brother-sister controlled group is a designation under the Internal Revenue Code for two or more businesses with a high degree of common ownership among a small group of individuals. This status is automatically triggered when specific ownership tests are met, and it exists to prevent owners from splitting a business into multiple entities to gain tax advantages intended for single, smaller companies.
When businesses are identified as a brother-sister controlled group, they are treated as a single employer for many regulatory purposes. This aggregation affects the application of retirement plan rules, eligibility for certain tax credits, and the limits on specific deductions.
The Two Ownership Tests for Identification
To be classified as a brother-sister controlled group, two or more businesses must satisfy ownership tests centered around a group of five or fewer people, which can include individuals, estates, or trusts. While the statutory definition has been simplified, a two-part analysis is still required for many purposes, such as for employee benefit plans.
The first requirement is the 80% common ownership test, where the same group of five or fewer owners must collectively own at least 80% of the stock in each corporation. Based on the Supreme Court case U.S. v. Vogel Fertilizer Co., an individual’s stock is only included in this calculation if that person owns stock in every corporation within the group. Ownership in only some of the companies is disregarded for this test.
The second requirement is the 50% identical ownership test. This test is more restrictive and requires the same group of owners to own more than 50% of each corporation. For this calculation, only the smallest, or identical, ownership percentage a person holds across all the companies is counted. For example, if someone owns 30% of Company A and 40% of Company B, only their 30% ownership is considered for this test.
To illustrate, consider two companies, Corp X and Corp Y, owned by Ann, Bob, and Chris. Ann owns 60% of X and 30% of Y; Bob owns 30% of X and 60% of Y; and Chris owns 10% of X and 10% of Y. For the 80% test, their combined ownership is 100% in both companies. For the 50% test, Ann’s identical ownership is 30%, Bob’s is 30%, and Chris’s is 10%, for a total of 70%. Since both tests are passed, Corp X and Corp Y form a brother-sister controlled group.
Defining Ownership and Attribution Rules
Determining ownership percentages involves more than looking at stock certificates. The IRS uses “attribution” or “constructive ownership” rules that treat a person as owning stock legally owned by another person or entity. These rules are designed to prevent owners from circumventing the controlled group rules by distributing ownership among family or related entities.
Family attribution rules are a common factor in these calculations. Ownership is often attributed between spouses, meaning stock owned by one spouse is treated as being owned by the other. Stock owned by a minor child (under age 21) is attributed to their parents, while attribution from an adult child to a parent typically only occurs if the parent already owns more than 50% of the company.
Ownership can also be attributed from entities to individuals. A person with a stake in a partnership, estate, or trust may be treated as proportionally owning the stock held by that entity. This prevents using a holding company to obscure control over multiple businesses.
The right to acquire stock, such as through an option, is also treated as ownership. If an individual holds an option to purchase shares, the IRS considers them the owner of those shares for controlled group testing. This ensures potential ownership is factored into the analysis.
Tax and Benefit Consequences of Controlled Group Status
The classification of multiple businesses as a brother-sister controlled group carries mandatory consequences, as the entire group is treated as a single employer for many purposes under the tax code. This aggregation principle is not elective and directly impacts tax planning, employee benefits administration, and overall compliance costs.
One of the most affected areas is retirement plans. All employees within the controlled group are aggregated for meeting nondiscrimination testing requirements for qualified plans like 401(k)s. This means a plan must demonstrate that it does not unfairly favor highly compensated employees across the entire group. Contribution limits are also applied on a group-wide basis, preventing an individual who works for multiple member companies from exceeding the annual cap.
The group is entitled to only one accumulated earnings credit, which is the amount of earnings a corporation can retain without being subject to a penalty tax. The ability to expense certain asset purchases is also limited to a single, shared cap for the entire group.
These single-entity rules extend to other employee benefits. When determining if an employer is an “Applicable Large Employer” (ALE) under the Affordable Care Act (ACA), all employees of the controlled group are counted together. This can push a group of smaller, related companies over the 50 full-time employee threshold, subjecting them to the employer mandate. The rules for fringe benefits, such as group-term life insurance and cafeteria plans, also apply on a group-wide basis.