IRS approved tax treatment for a merger, stock exchange, and redemption

Plain-English summary

The IRS ruled on a proposed transaction in which two shareholders would form a new corporation, contribute their stock to it, and merge it into the existing corporation. Minority shareholders would receive cash for their shares, while the two principal shareholders would receive replacement shares with the same rights and preferences. The IRS would disregard the new corporation's creation and merger for federal tax purposes, treat the cash contribution as a direct stock acquisition, and generally treat the principal shareholders as having retained their original stock. Cash received by minority shareholders would be treated as a distribution in redemption of their stock, subject to section 302. The corporation would recognize no gain or loss on the stock acquisition under section 1032(a).

Ruling snapshot

• Question: What federal tax treatment applies to the proposed merger, stock exchange, and cash redemption of minority-held shares?
• Outcome: Approved, subject to the stated facts and conditions.
• Key authorities: IRC §§ 302, 302(a), and 1032(a); Rev. Rul. 78-250, 1978-1 C.B. 83.

Full text (IRS public release)

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Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201007051 Third Party Communication: None
Release Date: 2/19/2010 Date of Communication: Not Applicable
Index Number: 302.00-00
Person To Contact:
-------------------- -----------------------, ID No. -------------
-------------------------------------- Telephone Number:
------------------------- ---------------------
--------------------- Refer Reply To:
-------------------------- CC:CORP:B04
PLR-147687-09
Date:
November 05, 2009

Legend:

Corporation = ----------------------------------------------------
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Business = ----------------------------------------------------
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Shareholder 1 = ----------------------------------------------------
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Shareholder 2 = ----------------------------------------------------
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Minority = ----------------------------------------------------
Shareholders ----------------------------------------------------
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State A = ------------
PLR-147687-09 2

a = -------------

b = -----------

c = ---------------

d = ---------------

e = --------

f = ---

g = ------

h = -----------

i = ---

Dear -------------

This letter responds to your October 22, 2009 request for rulings as to the Federal
income tax consequences of a proposed transaction. The information submitted for
consideration is summarized below.

Corporation is a State A corporation engaged in Business. Corporation currently has
issued and outstanding a shares of class A common stock, b shares of class B common
stock, and c shares of several series of preferred stock. The class A common stock and
each series of preferred stock have voting rights, while the class B common stock is
nonvoting. Corporation also has outstanding restricted stock and options to purchase
stock of Corporation, all of which are held by the Minority Shareholders. Together, the
common and preferred stock, the restricted stock, and the unexercised options
represent all of the outstanding shares of Corporation (a total of d shares).

Shareholder 1 and Shareholder 2 own e percent and f percent, respectively, of the total
shares of Corporation. The Minority Shareholders own the remaining g percent of the
total shares of Corporation stock in the form of class A common shares and class B
common shares.
PLR-147687-09 3

In order to increase the operational flexibility of Corporation, and to reduce costs and
eliminate administrative burdens associated with Minority Shareholders, Shareholder 1,
Shareholder 2, and Corporation propose the following transaction:

(i) Shareholder 1 and Shareholder 2 will form a new corporation under the laws
of State A (“Newco”), solely for the purpose of effecting this transaction.

(ii) Shareholder 1 and Shareholder 2 will contribute all of their common and
preferred shares of Corporation to Newco in exchange for an equal number of
shares of common and preferred stock of Newco (the “Contribution”). In
addition, Shareholder 1 will contribute cash to Newco in exchange for h
additional shares of Newco class A common stock (the “Stock Acquisition”).

(iii) Newco will merge into Corporation with Corporation surviving. In connection
with the merger, the Minority Shareholders will receive a specified cash
amount per share in exchange for their Corporation stock, and such stock will
be cancelled. Minority Shareholders who dissent to the proposed transaction
and perfect their appraisal rights will receive an amount per share as
determined through the appraisal process and the shares will be cancelled.
Also in connection with the Merger, the Newco shares owned by Shareholder
1 and Shareholder 2 will be cancelled and each will receive the same
number, class and series of shares of Corporation stock as it held in Newco in
exchange for its previously held Newco stock (the “Share Exchange”).

In addition, under the terms of the Corporation stock option plan, all unvested options
will become vested and exercisable 30 days prior to the merger and to the extent
unexercised, will expire as of the merger. Holders of expiring options who do not
exercise their options will be entitled to receive payments equal to the difference
between the exercise price and the per share consideration amount. The outstanding
Corporation restricted stock will be converted into cash upon the merger and none will
remain outstanding.

After the completion of the proposed transaction, Shareholder 1 will hold a number of
shares equal to what Shareholder 1 held immediately before the proposed transaction
(and with the same rights, preferences and privileges), plus the h shares of class A
common stock of Corporation that Shareholder 1 acquired in the Stock Purchase,
thereby increasing Shareholder 1’s ownership in Corporation to i percent. After the
completion of the proposed transaction, Shareholder 2 will hold the same number of
shares of Corporation stock (and with the same rights, preferences and privileges) that
Shareholder 2 held in Corporation immediately before the proposed transaction.

Based solely on the information submitted, we rule as follows:
PLR-147687-09 4

(1) The creation of Newco followed by the merger of Newco into Corporation will
be disregarded for Federal income tax purposes (Rev. Rul. 78-250, 1978-1
C.B. 83). The Stock Acquisition will be treated as if Shareholder 1 contributed
cash to Corporation in exchange for additional shares of class A common
stock of Corporation.

(2) The proposed transaction will be treated as if Shareholder 1 and Shareholder
2 never transferred their Corporation stock for Federal income tax purposes
and thus Shareholder 1 and Shareholder 2 will not recognize any gain or loss
in the Contribution and the Share Exchange (Rev. Rul. 78-250, 1978-1 C.B.
83).

(3) No gain or loss will be recognized by Corporation in the Stock Acquisition
(§1032(a)).

(4) The cash received by the Minority Shareholders for such holders’ class A
common stock and class B common stock will be treated as having been
received by each such shareholder as a distribution in redemption of such
holder’s stock, subject to the provisions and limitations of section 302 of the
Code (Rev. Rul. 78-250, 1978-1 C.B. 83).

No opinion is expressed 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 transaction that are not
specifically covered by the above rulings.

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

A copy of this letter must be attached to the taxpayer’s federal income tax return for the
taxable year in which the transaction is consummated. Alternatively, taxpayers filing
their returns electronically may satisfy this requirement by attaching a statement to their
return that provides the date and control number of this letter.

                                   Sincerely,


                                   __________________
                                   Lewis K Brickates
                                   Chief, Branch 4
                                   Office of Associate Chief Counsel (Corporate)

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