PLR 200645002: Sale of shares tied to convertible commercial unit preserves cooperative status

Plain-English summary

A cooperative housing corporation planned to issue shares carrying a proprietary lease for a building's commercial unit. The buyer could continue commercial use but would have the right to convert the unit to residential apartments, and local rules permitted that conversion. The IRS ruled that issuing the shares and possible commercial use would not by themselves disqualify the corporation as a cooperative housing corporation, provided all section 216 requirements were met. The buyer would qualify as a tenant-stockholder if the shares were fully paid up in a reasonable relationship to the unit's share of the corporation's equity. The corporation would recognize no gain or loss on issuing its shares for payment, and those proceeds would not count as gross income for the section 216 income test. The IRS did not decide whether the share price actually met the required equity relationship or whether the corporation otherwise satisfied section 216.

Ruling snapshot

• Question: Would issuing cooperative shares for a convertible commercial unit jeopardize cooperative status or create taxable income?
• Outcome: Approved the specified treatment, subject to section 216 requirements and the stated share-value condition.
• Key authorities: IRC §§ 216, 1032; Treas. Reg. §§ 1.216-1(e)(2), 1.1032-1(a).

Full text (IRS public release)

Number: 200645002
Release Date: 11/10/2006
Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Third Party Communication: None
Index Number: 216.00-00
Date of Communication: Not Applicable

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Person To Contact:
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Telephone Number:
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Refer Reply To:
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CC:PSI:B07
PLR-104764-06
Date: July 31, 2006

LEGEND:

Corporation =-
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Year = -------
State = -------------
a = ----
b = --
c = ---------

Dear ------------------:

We received a letter from your authorized representatives dated January 20, 2006, requesting rulings regarding the application of § 216 and § 1032 of the Internal Revenue Code to Corporation. This letter responds to that request.

The represented facts are as follows. Corporation was formed in Year under the laws of State for the purposes of acquiring and operating on a cooperative basis an apartment building (“Building”). Building contains a residential units and b commercial unit. Currently, c shares of common stock are issued and outstanding. Common stock has been allocated to the residential units but has not been allocated to the b commercial unit (“Commercial Unit”). The Commercial Unit currently is leased to a commercial tenant.

Corporation proposes to convert the Commercial Unit to cooperative ownership by selling to an unrelated purchaser newly issued shares of stock (“New Shares”) attributable to the Commercial Unit. Corporation represents that the New Shares to be issued with respect to the Commercial Unit will be fully paid up in an amount bearing a

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reasonable relationship to the portion of the value of Corporation’s equity in the building and land that is attributable to the Commercial Unit.

Ownership of the newly issued shares will entitle the purchaser to a proprietary lease under which the purchaser of the New Shares will be entitled to occupy the Commercial Unit either for retail purposes or as residential apartments. The owner of the Commercial Unit will at all times have the right, as against Corporation, to occupy the unit for dwelling purposes.

Corporation represents that the local zoning law and building regulations currently permit modification of the Commercial Unit to residential use as a matter of right. Corporation submits facts and representations to show that it would be reasonable to convert the Commercial Unit to residential use. The size and location of the Commercial Unit are such that, with certain modifications, it could be converted into residential apartments.

You have specifically requested the following rulings:

(1) Neither the issuance of the New Shares, nor the grant of a proprietary lease of the Commercial Unit, nor the possible nonresidential use of the Commercial Unit, will cause Corporation to fail to satisfy the requirement of § 216(b)(1)(B).

(2) Neither the issuance of the New Shares, nor the grant of a proprietary lease of the Commercial Unit, nor the possible nonresidential use of the Commercial Unit, will cause Corporation to fail to satisfy the requirement of § 216(b)(1)(A).

(3) The income that Corporation receives from the owner of the Commercial Unit as pro rata assessments corresponding to the shares issued with respect to the Commercial Unit, will qualify as income derived from a tenant-stockholder for purposes of § 216(b)(1)(D), provided that the owner of the Commercial Unit qualifies as a tenant-stockholder within the meaning of § 216(b)(2).

(4) The owner of the Commercial Unit will qualify as a tenant-stockholder of Corporation within the meaning of § 216(b)(2), provided that the New Shares are fully paid-up in an amount not less than an amount that bears a reasonable relationship to the portion of the value of Corporation’s equity in the building and land that is attributable to the Commercial Unit.

(5) Corporation will not recognize any gain or loss as a result of the receipt of cash or other property in exchange for the New Shares. Section 1032(a) of the Code.

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(6) Corporation’s proceeds from the proposed transaction will not constitute “gross income” for purposes of § 216(b)(1)(D).

Ruling Requests 1- 4

Section 216(b)(1) provides that the term “cooperative housing corporation” means a corporation – (A) having one and only one class of stock outstanding, (B) each of the stockholders of which is entitled, solely by reason of his ownership of stock in the corporation, to occupy for dwelling purposes a house, or an apartment in a building, owned or leased by such corporation, (C) no stockholder of which is entitled (either conditionally or unconditionally) to receive any distribution not out of earnings and profits of the corporation except on a complete or partial liquidation of the corporation, and (D) 80 percent or more of the gross income of which for the taxable year in which the taxes and interest described in § 216(a) are paid or incurred is derived from tenant- stockholders.

Section 216(b)(2) provides that the term “tenant-stockholder” means a person who is a stockholder in a cooperative housing corporation, and whose stock is fully paid-up in an amount not less than an amount shown to the satisfaction of the Secretary as bearing a reasonable relationship to the portion of the value of the corporation’s equity in the houses or apartment building and the land on which situated which is attributable to the house or apartment which such person is entitled to occupy.

Section 1.216-1(e)(2) provides, in relevant part, that in order to qualify as a “cooperative housing corporation” under § 216, each stockholder of the corporation, whether or not the stockholder qualifies as a tenant-stockholder under § 216(b)(2) and § 1.216-1(f), must be entitled to occupy for dwelling purposes an apartment in a building or a unit in a housing development owned or leased by such corporation. The stockholder is not required to occupy the premises. The right as against the corporation to occupy the premises is sufficient. Such right must be conferred on each stockholder solely by reasons of his or her ownership of stock in the corporation. That is, the stock must entitle the owner thereof either to occupy the premises or to a lease of the premises. The fact that the right to continue to occupy the premises is dependent upon the payment of charges to the corporation in the nature of rentals or assessments is immaterial.

Rev. Rul. 74-241, 1974-1 C.B. 68, provides that, for purposes of § 216(b)(1)(B), the term “apartment in a building” means an independent housekeeping unit consisting of one or more rooms containing facilities for cooking, sleeping, and sanitation normally found in a principal residence.

Rev. Rul. 90-35, 1990-1 C.B. 48, provides that Rev. Rul. 74-241 does not require that a unit presently contain all the facilities normally found in a principal residence in

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order to constitute an apartment in a building for purposes of § 216(b)(1)(B). A unit will be treated as meeting that definition if: (1) the stockholder is entitled to convert the unit to an apartment, as defined in Rev. Rul. 74-241, solely by reason of ownership of stock in the cooperative housing corporation; (2) the conversion of the unit would be reasonable under all the facts and circumstances, including structural feasibility and costs; and (3) the applicable zoning, building, and fire codes permit both the conversion and residential use of the unit as a matter of right.

Applying the above standards to the facts and representations submitted and subject to the limitation below, we conclude that provided Corporation satisfies the requirements of § 216(b)(1)(A)-(D), neither the issuance of the New Shares by Corporation to be allocated to the Commercial Unit nor the possible nonresidential use of the Commercial Unit will prevent Corporation from qualifying as a cooperative housing corporation within the meaning of § 216(b)(1).

Based upon taxpayer’s representations, we note that the purchaser of the stock of Corporation attributable to the Commercial Unit will qualify as a “tenant-stockholder” for purposes of § 216(b)(2), provided such stock is fully paid up in an amount which bears a reasonable relationship to the portion of the value of Corporation’s equity in the building and land which is attributable to the unit which the purchaser is entitled to occupy.

Ruling Requests 5 & 6

Section 1032 provides, in part, that no gain or loss shall be recognized to a corporation on the receipt of money or other property in exchange for stock (including treasury stock) of such corporation. Treasury Regulations § 1.1032-1(a) provides, in part, that the disposition by a corporation of shares of its own stock (including treasury stock) for money or other property does not give rise to taxable gain or deductible loss to the corporation regardless of the nature of the transaction or the facts and circumstances involved.

Because Corporation will not recognize any gain or loss upon the issuance of New Shares under § 1032, Corporation will derive no gross income from the proposed transaction.

Applying these provisions to the facts and representations submitted, we conclude that Corporation will recognize no gain or loss on the receipt of money or other property in exchange for the New Shares to be allocated to the Commercial Space under § 1032. Accordingly, Corporation’s proceeds from the proposed transaction will not constitute “gross income” for purposes of § 216(b)(1)(D).

Except as expressly provided herein, we express or imply no opinion concerning the tax consequences of any aspect of any transaction or item discussed or referenced

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in this letter. Further, we express or imply no opinion whether Corporation otherwise meets the requirements of § 216.

Specifically, we express or imply no opinion as to whether Corporation meets the requirements of § 216(b)(2) concerning whether the stock bears a reasonable relationship to the portion of the value of the Corporation’s equity in the building and land which is attributable to the unit which the purchaser is entitled to occupy.

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

The rulings contained in this letter are based upon information and representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party. While this office has not verified any of the material submitted in support of the request for rulings, it is subject to verification on examination.

In accordance with the Power of Attorney on file with this office, we are sending a copy of this letter to your authorized representatives. A copy of this ruling must be attached to any income tax return to which it is relevant.

Sincerely,

/s/
Joseph H. Makurath
Senior Technician Reviewer, Branch 7
(Passthroughs & Special Industries)