PLR 200103057: Two distributions of subsidiary stock receive tax-free treatment

Plain-English summary

A corporate group proposed separating one business from its other operations. One U.S. subsidiary would transfer the stock of two operating subsidiaries to a new corporation, then distribute the new corporation's stock to its U.S. parent. That parent would distribute the stock again to a foreign parent. Based on the submitted facts and representations, the IRS ruled that the first transfer and distribution would qualify as a section 368(a)(1)(D) reorganization and that both stock distributions would generally avoid immediate gain or loss under section 355. It also ruled that the U.S. parent would not recognize gain or loss under section 367(e)(1) on its distribution to the foreign parent. The ruling specifies stock basis, holding period, and earnings and profits consequences, and leaves other tax issues outside its scope.

Ruling snapshot

• Question: What are the federal tax consequences of the proposed transfer and two distributions of the new corporation's stock?
• Outcome: Approved: the IRS ruled on reorganization, nonrecognition, basis, holding period, and earnings and profits consequences.
• Key authorities: IRC §§ 355, 361, 367(e)(1), 368(a)(1)(D); Treas. Reg. § 1.367(e)-1(c).

Full text (IRS public release)

Internal Revenue Service Department of the Treasury

Number: 200103057
Washington, DC 20224
Release Date: 1/19/2001
Index Number: 0355.01-00 Person to Contact:
0368.04-00
Telephone Number:

Refer Reply To:
CC:CORP:B02-PLR-109315-00
Date:
October 24, 2000

LEGEND:

Foreign Parent =

Distributing 1 =

Distributing 2 =

Controlled
=

Controlled
Subsidiary 1
=

Controlled
Subsidiary 2
=

State T
=
State U
=

Country V
=
Country W
=
Country X
=
Country Y
=

Industry Z
=

Business A
=

Business B
=
Business C
=
Business D
=
Business E
=
Business F
=
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PLR-109315-00

Dear:

This letter responds to your Authorized Representatives’ letter dated April 26, 2000, in which you requested rulings under section 355 of the Internal Revenue Code. Additional information regarding your request has been submitted in letters dated July 27, August 7, August 9, August 18, September 12, September 27, and October 17, 2000. The material information submitted for consideration is summarized below.

Foreign Parent is a Country V corporation engaged in Industry Z. Distributing 2, a wholly-owned subsidiary of Foreign Parent, is a State U corporation. Distributing 2 is a holding company for operations located in Countries W, X, and Y and is the common parent for the U.S. affiliated group. Distributing 2 is engaged in Businesses A, B, C, D, E, and F indirectly, through its subsidiaries. Each of these businesses has been conducted for more than five years.

Distributing 1, a State U corporation, is a wholly-owned subsidiary of Distributing

2. Distributing 1 is actively engaged in Businesses A, B, C, D, E, and F. Each of these
   businesses has been conducted for more than five years. Controlled is to be a State U corporation and will be formed for the purpose of restructuring Business F. After the proposed transaction, Controlled will be engaged in Business F through its wholly- owned subsidiaries.

   Controlled Subsidiary 1, a State U corporation, is a wholly-owned subsidiary of
   Distributing 1. Controlled Subsidiary 1 has been directly engaged in Business F for each of the past five years. Controlled Subsidiary 2, a State T corporation, is a wholly- owned subsidiary of Distributing 1. Controlled Subsidiary 2 has been directly engaged in Business F for each of the past five years.

   The taxpayer has supplied financial information which indicates that Distributing
   1, Distributing 2, Controlled Subsidiary 1, and Controlled Subsidiary 2 have been conducting businesses that have had gross receipts and operating expenses representative of the active conduct of such businesses for each of the past five years.

   The management of Distributing 1 has determined that Businesses A and F
   cannot achieve their full potential as part of the Distributing 1 affiliated group due to management and systemic problems arising in their operation. Since Business A represents a larger share of Distributing 1's overall sales, management has been heavily influenced by the business model appropriate to Business A. As a result, the current structure impedes the investment in research and development necessary to succeed in Business F and the ability to make and implement decisions essential to the Business F operations.

   Accordingly, in order to resolve these problems, the taxpayer has proposed the
   following transaction:
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   (1) Distributing 1 will contribute all of the issued and outstanding stock of
   Controlled Subsidiary 1 and Controlled Subsidiary 2 to Controlled in
   exchange for all of the issued and outstanding stock of Controlled.

   (2) Distributing 1 will then distribute all of the issued and outstanding stock of
   Controlled to Distributing 2 (“Distribution 1").

   (3) Distributing 2 will then distribute all of the issued and outstanding stock of
   Controlled to Foreign Parent (“Distribution 2").

   The following additional representations have been made in connection with
   Step 1 of the proposed transaction:

   (a) The five years of financial information submitted on behalf of Distributing
   1, Controlled Subsidiary 1, and Controlled Subsidiary 2 is representative
   of their present operations, and with regard to such corporations, there
   have been no substantial operational changes since the date of the last
   financial statements submitted.

   (b) The proposed transaction does not involve the vertical division of a single
   business or the separation of two or more businesses. There is no
   planned or intended substantial reduction in the business activity of
   Distributing 1 or Controlled.

   (c) The total adjusted gross bases and the fair market value of the assets to
   be transferred to Controlled by Distributing 1 each equals or exceeds the
   sum of the liabilities assumed by Controlled plus any liabilities to which
   the transferred assets are subject.

   (d) The liabilities assumed in step 1 of the transaction and the liabilities to
   which the transferred assets are subject were incurred in the ordinary
   course of business and are associated with the assets being transferred.

   The following additional representations have been made in connection with
   Step 2 of the proposed transaction:

   (e) No part of the consideration to be distributed by Distributing 1 will be
   received by the shareholder of Distributing 1 as a creditor, employee, or in
   any capacity other than that of a shareholder of Distributing 1.

   (f) There is no plan or intention on the part of the shareholders of Distributing
   1 to sell, exchange, transfer by gift, or otherwise dispose of any of their
   stock in either Distributing 1 or Controlled after the proposed transaction,
   except: (i) Foreign Parent will contribute Controlled to its wholly-owned
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      subsidiary, Foreign Holdco, and then, possibly, to a wholly-owned
      subsidiary of Foreign Holdco, and (ii) Distributing 2 will contribute
      Distributing 1 to its wholly-owned U.S. subsidiary, New Capco.
   

   (g) Immediately after the distribution, at least ninety percent of the fair market
   value of the gross assets of Controlled will consist of the stock and
   securities of controlled corporations that are engaged in the active
   conduct of a trade or business as defined in § 355(b)(2).

   (h) Immediately after the distribution, at least ninety percent of the fair market
   value of the gross assets of Distributing 2 will consist of the stock and
   securities of controlled corporations that are engaged in the active
   conduct of a trade or business as defined in § 355(b)(2).

   (i) The proposed transaction does not involve the vertical division of a single
   business or the separation of two or more businesses. There is no
   planned or intended substantial reduction in the business activity of
   Distributing 2.

   (j) The distribution of the stock of Controlled is being undertaken for the
   following corporate business purpose: to enhance the success of the
   business by enabling the corporations to resolve management and
   systemic problems that arise by the taxpayer’s operation of different
   businesses within a single corporation or affiliated group. The distribution
   of the stock of Controlled is motivated, in whole or substantial part, by
   such corporate business purpose.

   (k) There is no plan or intention to issue, redeem, or dispose of any of the
   Controlled stock except as described above at paragraph (f).

   (l) There is no plan or intention by Distributing 1, Distributing 2, or Controlled,
   directly or through any subsidiary corporation, to purchase any of its
   outstanding stock after the transaction, other than through stock
   purchases meeting the requirements of Section 4.05(1)(b) of Rev. Proc.
   96-30.

   (m) There is no plan or intention to liquidate Distributing 1, Distributing 2, or
   Controlled; to merge any of these corporations with any other corporation;
   or to sell or otherwise dispose of any of the assets of these corporations
   except (i) in the ordinary course of business and (ii) as described above at
   paragraph (f).

   (n) Neither Distributing 1 nor Distributing 2 accumulated its receivables nor
   made extraordinary payment of its payables in anticipation of the
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   PLR-109315-00

        proposed transaction.
   

   (o) No shareholder of Distributing 1 or Distributing 2 will hold immediately
   after the distribution disqualified stock within the meaning of § 355(d)(3)
   which constitutes a 50% or greater interest in Distributing 1, Distributing 2,
   or Controlled.

   (p) The distribution is not part of a plan or series of related transactions
   (within the meaning of § 355(e)) pursuant to which one or more persons
   will acquire, directly or indirectly, stock possessing 50% or more of the
   combined voting power of all classes of stock entitled to vote of either
   Distributing 1 , Distributing 2, or Controlled, or stock possessing 50% or
   more of the total value of all classes of stock of either Distributing 1,
   Distributing 2, or Controlled.

   (q) No intercorporate debt will exist between Distributing 1, Distributing 2, and
   Controlled at the time of, or subsequent to, the distribution of the
   Controlled stock, except as may arise from the shared treasury function
   operated out of Distributing 1. Any such intercorporate debt will not
   constitute stock or securities.

   (r) Immediately before the distribution, items of income, gain, loss, deduction
   and credit will be taken into account as required by the applicable
   intercompany transaction regulations. Further, Distributing 1's and
   Distributing 2's excess loss account, if any, with respect to the Controlled
   stock will be included in income immediately before the distribution (See
   § 1.1502-19).

   (s) Payments made in connection with all continuing transactions, if any,
   between Distributing 1, Distributing 2, and Controlled will be for fair market
   value based on terms and conditions arrived at by the parties bargaining
   at arm’s length.

   (t) None of the parties to the transaction is an investment company as
   defined in section 368(a)(2)(F)(iii) and (iv).

   The following additional representations have been made in connection with
   Step 3 of the proposed transaction:

   (u) No part of the consideration to be distributed by Distributing 2 will be
   received by the shareholder of Distributing 2 as a creditor, employee, or in
   any capacity other than that of a shareholder of Distributing 2.

   (v) There is no plan or intention on the part of the shareholders of Distributing
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   PLR-109315-00

        2 to sell, exchange, transfer by gift, or otherwise dispose of any of their
        stock in either Distributing 1, Distributing 2, or Controlled after the
        proposed transaction, except as described above at paragraph (f).
   

   (w) Neither Distributing 2 nor Controlled has been or will be a “United States
   real property holding corporation” (“USRPHC”), as defined in § 897(c)(2),
   at any time during the five-year period ending on the date of Distribution 2,
   and neither Distributing 2 nor Controlled will be a USRPHC immediately
   after Distribution 2.

   Based solely upon the information submitted and the representations made, we
   rule as follows:

   (a) The transfer by Distributing 1 to Controlled of the stock of Controlled
   Subsidiary 1 and Controlled Subsidiary 2, solely in exchange for all of the
   issued and outstanding stock of Controlled, followed by the distribution of
   all of the Controlled stock to Distributing 2 will be a reorganization within
   the meaning of section 368(a)(1)(D) of the Code. Distributing 1 and
   Controlled will each be “a party to the reorganization” within the meaning
   of section 368(b).

   (b) Distributing 1 will recognize no gain or loss upon the transfer of the stock
   of Controlled Subsidiary 1 and Controlled Subsidiary 2 to Controlled in
   exchange for the stock of Controlled (section 361(a)).

   (c) Controlled will recognize no gain or loss upon the receipt of the stock of
   Controlled Subsidiary 1 and Controlled Subsidiary 2 in exchange for the
   stock of Controlled (section 1032(a)).

   (d) The basis of the stock of Controlled Subsidiary 1 and Controlled
   Subsidiary 2 received by Controlled in the transaction will be the same as
   the basis of such property in the hands of Distributing 1 immediately prior
   to their transfer to Controlled (section 362(b)).

   (e) The holding period of the stock of Controlled Subsidiary 1 and Controlled
   Subsidiary 2 received by Controlled in the transaction will include the
   period during which such property was held by Distributing 1 (section
   1223(2)).

   (f) Distributing 2 will recognize no gain or loss (and no amount will be
   included in the income of Distributing 2) upon the receipt of the Controlled
   stock (section 355(a)(1)).

   (g) Distributing 1 will recognize no gain or loss upon the distribution of the
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   PLR-109315-00

      Controlled stock to Distributing 2 (section 361(c)).
   

   (h) The aggregate basis of the Controlled stock and the Distributing 1 stock in
   the hands of Distributing 2 immediately after the distribution to Distributing
   2 will be the same as the basis of the Distributing 1 stock in the hands of
   Distributing 2 immediately prior to the distribution (section 358(a)(1) and
   section 1.358-1(a)). Such aggregate basis will be allocated between the
   Distributing 1 stock and the Controlled stock in proportion to the relative
   fair market value of each corporation’s stock in accordance with section
   1.358-2(a)(2) of the Income Tax Regulations (section 358(b)).

   (i) The holding period of the Controlled stock received by Distributing 2 will
   include the holding period of the Distributing 1 stock held by Distributing 2
   with respect to which the distribution will be made, provided that the
   Distributing 1 stock is held as a capital asset on the date of the distribution
   (section 1223(1)).

   (j) As provided in section 312(h), proper allocation of earnings and profits
   between Distributing 1 and Controlled will be made under sections 1.312-
   10(a) and 1.1502-33 of the Income Tax Regulations.

   (k) Foreign Parent will recognize no gain or loss (and no amount will be
   included in the income of Foreign Parent) upon the receipt of the
   Controlled stock (section 355(a)(1)).

   (l) Distributing 2 will recognize no gain or loss upon the distribution of the
   Controlled stock to Foreign Parent (section 355(c)).

   (m) The aggregate basis of the Controlled stock and the Distributing 2 stock in
   the hands of Foreign Parent immediately after the distribution to Foreign
   Parent will be the same as the basis of the Distributing 2 stock in the
   hands of Foreign Parent immediately prior to the distribution (section
   358(a)(1) and section 1.358-1(a)). Such aggregate basis will be allocated
   between the Distributing 1 stock and the Controlled stock in proportion to
   the relative fair market value of each corporation’s stock in accordance
   with section 1.358-2(a)(2) of the Income Tax Regulations (section 358(b)).

   (n) The holding period of the Controlled stock received by Foreign Parent will
   include the holding period of the Distributing 2 stock held by Foreign
   Parent with respect to which the distribution will be made, provided that
   the Distributing 2 stock is held as a capital asset on the date of the
   distribution (section 1223(1)).

   (o) As provided in section 312(h), proper allocation of earnings and profits
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   PLR-109315-00

         between Distributing 2 and Controlled will be made under sections 1.312-
         10(a) and 1.1502-33 of the Income Tax Regulations.
   

   (p) Distributing 2 will not recognize gain or loss under section 367(e)(1) on the
   distribution of Controlled stock to Foreign Parent (section 1.367(e)-1(c)).

   No opinion is expressed or implied about the tax treatment of the proposed
   

   transaction under other provisions of the Code and Regulations or about the tax treatment of any conditions existing at the time of, or effects resulting from, the proposed transaction that are not specifically covered by the above rulings. The rulings contained in this letter are predicated upon the facts and representations submitted by the Taxpayer and accompanied by a penalties of perjury statement executed by an appropriate party. This office has not verified any of the materials submitted in support of the request for a ruling. Verification of the information, representations, and other data may be required as part of the audit process.

   This ruling letter is directed only to the taxpayer(s) requesting it. Section
   6110(k)(3) of the Code provides that it may not be used or cited as precedent.

    A copy of this letter should be attached to the federal income tax return(s) of the
   

   taxpayer(s) involved for the taxable year in which the transaction covered by this ruling letter is consummated.

    In accordance with the Power of Attorney on file with this office, a copy of this
   

   letter is being sent to the taxpayer.

                                         Sincerely,
                                         Associate Chief Counsel (Corporate)
                                      by Lewis K Brickates
                                         Assistant to the Branch Chief, Branch 2