Open-market repurchases are treated as pro rata for section 355(e) testing

Plain-English summary

A public corporation completed a distribution of a controlled corporation followed by a merger with another public company. It later made, and planned to continue making, open-market repurchases of its widely held shares for business reasons without targeting any shareholder or group. The IRS ruled that, if the repurchases were treated as part of a plan with the distribution, they would be treated as purchases from all common shareholders on a pro rata basis when testing the distribution under IRC § 355(e). The ruling addressed only that discrete significant issue and did not determine the transactions’ overall tax consequences.

Ruling snapshot

• Question: How should open-market share repurchases be treated when measuring their effect on a distribution under IRC § 355(e)?
• Outcome: Approved
• Key authorities: IRC § 355(e); Treas. Reg. § 1.355-7(h)(3); Rev. Proc. 2015-1 § 6.03

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201601009 Third Party Communication: None
Release Date: 12/31/2015 Date of Communication: Not Applicable
Index Number: 355.10-00
Person To Contact:
------------------ -----------------------------------, ID No. -------
-------------------------- -----------------
---------------------- Telephone Number:
------------------------ ---------------------
----------------------------- Refer Reply To:
CC:CORP:B05
PLR-118425-15
Date:
October 02, 2015

Legend

Distributing = ----------------------------------------------------------------------------------------
---------------------------------------------

Target = ----------------------------------------------------------------------------------------
---------------------------------------

Controlled = ----------------------------------------------------------------------------------------
----------

Merger Sub = --------------------------------------------------------------

Business A = ------------------------------

Business B = ---------------------------------------------------

State A = -------------

Date A = -----------------------

Date B = ---------------------

Date C = -----------------------

Date D = ---------------------

Date E = -------------------

Date F = -----------------------
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Date G = ---------------------

Date H = --------------------

Date I = --------------------

Year 1 = -------

Year 2 = -------

Year 3 = -------

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

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

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

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

e = ---------------

f = --------------

g = --------------

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

i = ------

j = ------

k = --------------

l = ---------------

m = -----------

n = --------------

o = -----------------

p = --------------
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q = --------------

r = ----

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

This letter responds to a letter dated June 2, 2015, submitted on behalf of Distributing,
requesting a ruling on a significant issue presented under section 355(e) of the Internal
Revenue Code (the “Code”). The information provided in that request and in
subsequent correspondence is summarized below.

This letter is issued pursuant to section 6.03 of Rev. Proc. 2015-1, 2015-1 I.R.B. 1,
regarding one or more significant issues under sections 332, 351, 355, 368, or 1036 of
the Code. The ruling contained in this letter only addresses one or more discrete legal
issues involved in the transactions described in this letter. This Office expresses no
opinion as to the overall tax consequences of these transactions or as to any issue not
specifically addressed by the ruling below.

The ruling contained in this letter is based upon information 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 ruling request. Verification of the facts, representations, and
other information may be required as part of the audit process.

                                    Summary of Facts

Distributing is a publicly traded State A corporation and the parent of an affiliated group
that files a consolidated federal income tax return. Prior to Date F, Distributing
conducted Business A and Business B through its subsidiaries.

On Date A, Distributing’s board of directors authorized the expenditure of up to $a to
repurchase Distributing’s common stock (the “Prior Repurchase Program”). Under the
Prior Repurchase Program, Distributing repurchased b shares for $c during its taxable
year that ended on Date B, and it repurchased d shares for $e during its taxable year
that ended on Date D. On Date C, the Prior Repurchase Program was extended for
another year, but the program was suspended on Date E.

Target is a State A corporation whose stock was publicly traded prior to Date F.
Pursuant to its own stock repurchase program, Target repurchased f shares of Target
common stock in Year 1, g shares in Year 2, and h shares in Year 3.

On Date E, Distributing, along with Controlled and Merger Sub (State A corporations
whose stock was wholly owned by Distributing), entered into an agreement with Target
(the “Transaction Agreement”). Pursuant to the Transaction Agreement, the following
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transactions occurred: (i) Distributing contributed and caused its subsidiaries to
contribute to Controlled all assets and liabilities related to Business A; (ii) on Date F,
Distributing made a pro rata distribution to its shareholders (the “Former Distributing
Shareholders”) of all of the common stock of Controlled (the “Distribution”); and
(iii) immediately after the Distribution, Merger Sub merged with and into Target, with
Target surviving as a wholly owned subsidiary of Distributing (the “Merger”).
Immediately after the Merger, the Former Distributing Shareholders owned 100% of
Controlled and approximately i% of Distributing, and former shareholders of Target
owned approximately j% of Distributing.

On Date G, Distributing’s board of directors authorized a new share repurchase
program not to exceed the lesser of k shares of Distributing common stock or an
aggregate purchase price of $l (the “Authorized Share Repurchases”). As of Date H,
Distributing had repurchased approximately m shares of its common stock under this
program. On Date I, Distributing’s board of directors raised the cap on Authorized
Share Repurchases to the lesser of n shares or an aggregate purchase price of $o.

In addition to the Authorized Share Repurchases, Distributing may engage in additional
share repurchases of up to p shares of Distributing common stock (the “Additional
Share Repurchases”; together with the Authorized Share Repurchases, the “Share
Repurchases”). The Share Repurchases could, in total, result in the repurchase of up
to q shares of Distributing common stock, representing approximately r% of Distributing
common stock outstanding before the Share Repurchases.

The Share Repurchases have been and will continue to be completed through an open
market share repurchase program. All Distributing shareholders are allowed to
participate in and benefit from the Share Repurchases, and Distributing is indifferent as
to which shareholders participate in the Share Repurchases. The Share Repurchases
have been made and will continue to be made when, consistent with Distributing’s
overall capital deployment plan, Distributing has excess available cash and the
opportunity to repurchase shares at an attractive price.

Before the Merger, neither Distributing nor Target had any “controlling shareholders”
within the meaning of § 1.355-7(h)(3) of the Income Tax Regulations, and Distributing
has had no such controlling shareholders since the Merger. Prior to Date F, the
management of Distributing and Target held no discussions with particular shareholder
groups or non-management shareholders regarding the possibility of engaging in stock
repurchases following the Distribution and Merger. The Share Repurchases were not
the subject of negotiations in connection with the Distribution or the Merger, and non-
management shareholders have had no influence over the decision to engage in the
Share Repurchases.
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                                Representations

Distributing makes the following representations:

1) The Share Repurchases will be motivated by a business purpose, the stock to be
repurchased in the Share Repurchases will be widely held, and the Share
Repurchases will be made in the open market.

2) The Share Repurchases are not motivated to any extent by a desire to increase
or decrease the ownership percentage of any particular shareholder or group of
shareholders.

3) Because the Share Repurchases will be made on the open market through a
broker, Distributing will not know the identity of any shareholder from which
Distributing stock is repurchased.

                                     Ruling

Based solely on the information submitted and representations made, we rule that, to
the extent the Share Repurchases are treated as part of a plan (or series of related
transactions) with the Distribution for purposes of section 355(e), the Share
Repurchases will be treated as being made from all holders of Distributing common
stock on a pro rata basis for purposes of testing the effect of the Share Repurchases on
the Distribution under section 355(e).

                                     Caveats

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax treatment of the transactions described herein under any provision of the Code and
regulations or the tax treatment of any condition existing at the time of, or effects
resulting from, these transactions that is not specifically covered by the above rulings.

                            Procedural Statements

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 representatives.
PLR-118425-15 6

A copy of this letter must be attached to any income tax return to which it is relevant.
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 the
letter ruling.

                                  Sincerely,


                                    Russell G. Jones
                                  Russell G. Jones
                                  Senior Counsel, Branch 1
                                  Office of Associate Chief Counsel (Corporate)