REIT liquidating distribution may purge inherited non-REIT earnings

Plain-English summary

A real estate investment trust revoked a subsidiary's taxable REIT subsidiary status, causing the subsidiary to become disregarded and liquidate into the REIT. The REIT succeeded to the subsidiary's C corporation earnings and profits, which it needed to distribute before year-end to preserve REIT qualification. It paid a cash distribution after it represented that a liquidation plan had already been adopted, so the payment generally was a liquidating distribution. The IRS ruled that section 857(d)(3)'s special earnings-and-profits ordering rule still applied because the payment was made to eliminate non-REIT earnings under section 857(a)(2)(B). The IRS did not decide whether the distribution was actually liquidating or whether its amount was sufficient.

Ruling snapshot

• Question: Does section 857(d)(3) apply when a REIT uses a liquidating cash distribution to eliminate inherited non-REIT earnings and profits?
• Outcome: Approved, section 857(d)(3) applies to the represented distribution
• Key authorities: IRC §§ 312, 316, 856, and 857(a)(2)(B), (d)(3); Treas. Reg. §§ 1.312-11(c), 1.856-1(e), and 1.857-11(b)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201530014 [Third Party Communication:
Release Date: 7/24/2015 Date of Communication: Month DD, YYYY]
Index Number: 856.03-00
Person To Contact:
------------------------------------------- -------------------------, ID No. -----------------
--------------------------------------- ----------------------------------------------------
------------------------------- Telephone Number:
----------------------------- --------------------
Refer Reply To:
CC:FIP:B1
PLR-139279-14
Date:
April 17, 2015

Legend:

Taxpayer = ---------------------------------------

Sub = ------------------------------------

State = ------------

Date 1 = -----------------

Date 2 = -----------------

Date 3 = --------------------

Date 4 = ---------------------

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

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

    This responds to your request for a ruling received October 20, 2014, and

subsequent correspondence, submitted on behalf of Taxpayer. Taxpayer requests a
ruling that section 857(d)(3) of the Internal Revenue Code of 1986, as amended (the
“Code”), applies to a liquidating distribution by Taxpayer to its shareholders.

Facts:

   Taxpayer is a State limited liability company that represents that it has qualified

and continues to qualify as a real estate investment trust (“REIT”) under sections 856-
860 of the Code since it began operating as a REIT on Date 1. Taxpayer’s primary
PLR-139279-14 2

business is acquiring, developing, and leasing real estate assets within the meaning of
section 856(c)(5)(B).

  Effective Date 2, Taxpayer and Sub, a taxable REIT subsidiary (“TRS”) of

Taxpayer, jointly revoked Sub’s status as a TRS. As a result, Sub became a qualified
REIT subsidiary not treated as separate from Taxpayer under section 856(i). Taxpayer
represents that sections 332 and 337 applied to the deemed liquidation of Sub and that
Taxpayer assumed all of the assets and liabilities of Sub, and succeeded to any C
corporation earnings and profits (“E&P”) of Sub as of the deemed liquidation date.

    In order to comply with section 857(a)(2)(B), which requires that Taxpayer have

no non-REIT E&P as of the last day of any taxable year, Taxpayer declared and paid a
distribution to its shareholders. On Date 3, Taxpayer’s board of directors approved a
cash distribution to shareholders in the amount of $a, which was actually paid in cash
on Date 4 (the “Distribution”). Taxpayer represents that the Distribution was large
enough to account for all of the Sub’s E&P to which Taxpayer succeeded. Taxpayer
further represents that no distribution to shareholders of Taxpayer will be a preferential
dividend under section 562(c).

   Taxpayer’s board of directors intends to liquidate Taxpayer in a transaction that

taxpayer represents would be a taxable liquidation under sections 331(a) and 336. At
the time of the Distribution, there was no formal legal resolution adopting a plan of
liquidation of Taxpayer. Based upon advice that Taxpayer received and upon
Taxpayer’s review of actions taken by shareholders, management, and members of the
board of Taxpayer, however, Taxpayer believes and represents that there was an
adoption of a plan of liquidation of Taxpayer for purposes of subchapter C prior to the
Distribution.

Law and Analysis:

   Section 857(a)(2)(B) provides that an entity will not be treated as a REIT for a

taxable year under section 856 unless as of the close of the taxable year, the REIT has
no E&P accumulated in any non-REIT year.

     Section 857(d)(3)(A) provides that any distribution which is made in order to

comply with the requirements of section 857(a)(2)(B) shall be treated for purposes of
sections 857(d) and 857(a)(2)(B) as made from E&P which, but for the distribution,
would result in a failure to meet such requirements (and allocated to such earnings on a
first-in, first-out basis).

   Section 1.857-11(b) of the Income Tax Regulations provides that a REIT does

not satisfy section 857(a)(2)(B) unless, as of the close of the tax year, it has no E&P
other than E&P that were earned by a corporation in a year for which part II of
subchapter M applied to the corporation and, at all times thereafter, were the E&P of a
corporation to which part II of subchapter M applied.
PLR-139279-14 3

   Section 1.856-1(e) of the Income Tax Regulations provides that to the extent that

other provisions of chapter 1 are not inconsistent with the REIT provisions and the
regulations thereunder, such other provisions will apply to REITs in the same manner
that they would apply to any other domestic corporation. For example, § 1.856-1(e)(6)
provides that, except as provided in section 857(d), E&P of a REIT are computed in the
same manner as in the case of a domestic corporation, and § 1.8561(e)(7) provides that
section 316, relating to the definition of a dividend, applies to distributions by a REIT.

    Section 312(a) provides that, except as otherwise provided, on the distribution of

property by a corporation with respect to its stock, the E&P of the corporation shall be
decreased by the sum of (1) the amount of money, (2) the principal amount (or, in the
case of obligations having original issue discount, issue price) of the obligations of the
corporation, and (3) the adjusted basis of the other property distributed. In the case of
other property that has appreciated, section 312(b) generally provides for an increase in
the corporation’s E&P to reflect the appreciation and a decrease in the corporation’s
E&P by the fair market value (instead of adjusted basis) of the property to reflect the
distribution.

   Section 312(d) provides that the distribution to a distributee by or on behalf of a

corporation of the corporation’s stock or securities, of stock or securities in another
corporation, or of property generally is not considered a distribution of the E&P of any
corporation (A) if no gain to such distributee from the receipt of the stock or securities,
or property, was recognized, or (B) if the distribution was not subject to tax in the hands
of the distributee by reason of section 305(a).

   Section 1.312-11(c) of the Income Tax Regulations provides that the E&P of a

corporation making a distribution in liquidation (other than a tax-free liquidation or
certain reorganizations) generally is diminished by the portion of the distribution properly
chargeable to E&P.

    Section 316(a) provides that, except as otherwise provided in subtitle A, every

distribution by a corporation to its shareholders is made out of E&P to the extent
thereof, and from the most recently accumulated E&P. Section 316(a) provides further
that to the extent that any distribution is, under any provision of subchapter C, treated
as a distribution of property to which section 301 applies, such distribution shall be
treated as a distribution of property for purposes of section 316(a).

    Based on Taxpayer’s representation that it adopted a plan of liquidation prior to

the date of the Distribution, the Distribution is generally treated as a liquidating
distribution under subchapter C. Taxpayer represents that the liquidation of Taxpayer
will be a taxable liquidation under sections 331(a) and 336. Distributions in a taxable
liquidation generally diminish the E&P of the distributing corporation. See § 1.312-
PLR-139279-14 4

11(c). The language of section 857(d)(3)(A) does not exclude liquidating distributions,
and Taxpayer represents that the Distribution was made to comply with the
requirements of section 857(a)(2)(B). Therefore, for purposes of section 857(a)(2)(B),
the E&P ordering rule in section 857(d)(3)(A) applies to the Distribution, notwithstanding
the E&P rules that would apply to the Distribution if Taxpayer were a domestic
corporation other than a REIT. See § 1.856-1(e)(6).

Conclusion:

  Based on the facts and representations set forth above, we rule that section

857(d)(3) applies to the Distribution.

   Except as expressly provided herein, no opinion is expressed or implied

concerning the tax consequences of any aspect of any transaction or item discussed or
referenced in this letter. In particular, no opinion is expressed (i) whether the
Distribution was a liquidating distribution or (ii) whether the amount of the Distribution
was sufficient to meet the requirements of section 857(a)(2)(B).

  This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of

the Code provides that it may not be used or cited as precedent.

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

letter is being sent to your authorized representative.

                                   Sincerely,


                                   _____________________________________
                                   Steven Harrison
                                   Branch Chief, Branch 1
                                   Office of the Associate Chief Counsel
                                   (Financial Institutions & Products)

cc: