Partly to clarify the confusion caused by Letter Ruling 200551018 as to acquisitive D reorganizations (see Burton, Karlinsky and Wright, “S Corporations: Current Developments (Part II),” TTA, November 2006, p. 670), on Dec. 19, 2006, the IRS issued Temp. Regs. Sec. 1.368-2T(l), allowing transactions to qualify as a reorganization under Sec. 368(a)(1)(D) when no stock and/or securities are issued or distributed in the acquisition.
In general, Secs. 368(a)(1)(D) and 354(b) provide non-recognition treatment for acquisitions meeting the following criteria:
- One corporation (the transferor) transfers substantially all of its assets to another corporation (the transferee);
- Immediately after the transfer, the transferor or one or more of its shareholders (or some combination thereof) is in control of the transferee; and
- Stock, securities and other property received by the transferor, and all of the transferor’s other properties, are distributed according to the reorganization plan.
Historically, the Service and courts have not required the actual issuance and distribution of stock and/or securities if the same person(s) own all the stock of the transferor and transferee.
Temp. Regs. Sec. 1.368-2T(l) clarifies situations in which the stock and/or securities distribution requirement is satisfied despite the fact that no stock or securities are actually issued or distributed. Temp. Regs. Sec. 1.368-2T(l)(2) provides that the distribution requirement will be deemed met if the same person(s) own(s) (directly or indirectly) all the stock of the transferor and transferee in identical proportions (whether or not stock is actually issued and distributed).
Example: Transferor and Transferee are owned by the same shareholders
in identical proportions. Transferor, with a net value of $100x, sells all its assets to Transferee for $100x and liquidates. Transferee is deemed to
issue a nominal share of stock to Transferor, which the latter is deemed to distribute to its shareholders in liquidation; the acquisition is treated as a D reorganization with boot.
Identical ownership: In evaluating identical ownership, Temp. Regs. Sec. 1.368-2T(l)(2)(ii) provides that the Sec. 318(a)(1) attribution rules apply, with minor modifications. Temp. Regs. Sec. 1.368-2T(l)(2)(iii) provides that the distribution requirements will be deemed met if there is a de minimis variation in shareholder identity or proportionality of ownership in both corporations. While “de minimis” is not defined, Temp. Regs. Sec. 1.368-2T(l)(3), Example (4), indicates that a 1% variation in common stock ownership is de minimis. Preferred stock meeting the definition of Sec. 1504(a)(4) is not taken into account.
The temporary regulations are effective for transactions occurring after March 18, 2007 and can be applied sooner if all parties to the transaction agree. They do not apply to transactions occurring under a written agreement binding before Dec. 19, 2006.
Note: On Feb. 28, 2007, temporary and proposed regulations under Sec. 368 were issued (TD 9313, REG-157834-06), providing that Temp. Regs. Sec. 1.368-2T(l) will not apply to cause a triangular reorganization to be a D reorganization when stock of a corporation in control of the acquirer is issued. If the triangular reorganization constitutes a D reorganization, the stock of the corporation in control of the acquirer will be treated as boot.