Tax-free spin-off of a business division, with a debt-repayment step

Plain-English summary

A parent company owns a subsidiary, "Distributing," that runs two businesses: Business A and, through a separate division, Business B. Distributing wants to split the two apart. It will form a new subsidiary, "Controlled," transfer the Business B assets (and a service subsidiary) to Controlled in exchange for stock and assumption of liabilities, then distribute Controlled's stock up to Parent. As part of the plan, Controlled takes a short bridge loan from Distributing equal to its share of Distributing's debt; later Controlled borrows from banks, repays the loan, and Distributing uses that cash to pay down its own debt (a debt-monetization using "section 361 consideration"). The taxpayer asked the IRS to confirm the tax treatment. The IRS issued 10 rulings: the contribution plus distribution qualifies as a tax-free "D" reorganization under §§ 368(a)(1)(D) and 355, neither Distributing nor Controlled recognizes gain or loss on the contribution, Parent recognizes no gain or loss on receiving Controlled's stock under § 355(a), and it set the basis, holding period, and earnings-and-profits allocation. The IRS did not rule on the business-purpose, device, or § 355(e) plan requirements. This matters because a properly structured § 355 spin-off lets a company separate two businesses without an immediate corporate- or shareholder-level tax.

Ruling snapshot

• Question: Does contributing a business division to a new subsidiary and distributing that subsidiary's stock (with a related debt-repayment step) qualify as a tax-free reorganization and spin-off under §§ 368(a)(1)(D) and 355?
• Outcome: approved (10 favorable rulings; business-purpose, device, and § 355(e) issues not addressed)
• Key authorities: IRC §§ 355, 368(a)(1)(D), 357, 361, 358, 362, 312(h), 1032, 1223; Treas. Reg. §§ 1.358-2, 1.312-10, 1.1502-33(e)(3); Rev. Proc. 2017-52; Rev. Proc. 2018-53

Full text (IRS public release)

 Internal Revenue Service                                      Department of the Treasury
                                                               Washington, DC 20224

 Number: 202311005                                             Third Party Communication: None
 Release Date: 3/17/2023                                       Date of Communication: Not Applicable
 Index Number: 355.01-00, 368.04-00
                                                               Person To Contact:
 ------------------------                                      -------------------, ID No. -----------------
 --------------------------------------------------            Telephone Number:
 ----------------------------------                            --------------------
 -------------------------                                     Refer Reply To:
                                                               CC:CORP:B05
                                                               PLR-118877-22
                                                               Date:
                                                               December 20, 2022




Legend

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

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

Parent                                      = -------------------------
                                               ----------------------
                                            ------------------------------

Sub 1                                       = ---------------------------
                                            -------------------------
                                   ------------------------------

Sub 2                                       = -------------------------------------
                                            -------------------------------------------------

LLC 1                                       = ----------------------------------------------------
                                            -------------------------
                                   ----------------------------------------------

LLC 2                                       = ----------------------------------------------
                                            -------------------------
                                   ----------------------------------------------

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

Business A                                  = --------------------------------
PLR-118877-22                                             2


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

Continuing Relationships                     = ----------------------
                                               -------------------------------------------
                                               -----------------------------------------
                                               ---------------------

Shared Services Employees                    = -------------------------------------------------------------
                                             -----------------------------------------------------------------
                                             ---------------------------------------------------------
                                             ----------------------------------------------------------------------
                                             --------------------------------------------------

Shared Services                              = --------------------------------------------------------------------
                                             ------------------------------------------------------------------------
                                             -------------------------------------
                                             --------------------------------------------------------------------
                                             ------------------------------------------------------------------------
                                             --------------------------------------------------------------------

Short-Term Debt                              = --------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------
                                             -------------------------------------------------------

Long-Term Debt                               = --------------------------------------------------------------------
-------
                                             ----------------------------

Refinanced Debt                              = --------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------
                                             ----------------------------------------------

Credit Facility                              = --------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------
                                             ----------------------------------------------

New Bank Debt                                = --------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------
                                             -------------------------------------------------------------------

New Long-Term Debt                           = --------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
-
                                             -----------------------------------------------------------
PLR-118877-22                                   3


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

a                                  = -----

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

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

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

e                                  = ---

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

This letter responds to your letter dated September 28, 2022 requesting rulings on
certain federal income tax consequences of a series of transactions (the “Proposed
Transaction,” as described below). The material information submitted is summarized
below.

This letter is issued pursuant to Rev. Proc. 2022-1, 2022-1 I.R.B. 1, Rev. Proc. 2022-
10, 2022-6 I.R.B. 473 and Rev. Proc. 2017-52, 2017-41 I.R.B. 283, as amplified and
modified by Rev. Proc. 2018-53, 2018-43 I.R.B. 667, regarding one or more “Covered
Transactions” under section 355 and/or section 368 of the Internal Revenue Code
(the “Code”). This office expresses no opinion as to any issue not specifically
addressed by the rulings below.

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

This office has made no determination regarding whether the Distribution (as
defined below): (i) satisfies the business purpose requirement of Treas. Reg.
§1.355-2(b); (ii) is used principally as a device for the distribution of the earnings
and profits of the distributing corporation or the controlled corporation or both (see
section 355(a)(1)(B) and Treas. Reg. §1.355-2(d)); or (iii) is part of a plan (or a
series of related transactions) pursuant to which one or more persons will acquire
directly or indirectly stock representing a 50-percent or greater interest in the
relevant distributing corporation or the controlled corporation, or any predecessor or
successor of such distributing corporation or controlled corporation, within the
meaning of Treas. Reg. §1.355-8 (see section 355(e)(2)(A)(ii) and Treas. Reg.
§1.355-7).
PLR-118877-22                                 4

                                     Summary of Facts

Parent and Distributing, State A corporations, are members of an affiliated group of
corporations that join in filing a consolidated U.S. federal income tax return on a
calendar year basis. Parent and Distributing use the accrual method of accounting.
Parent owns all of the stock of Distributing.

Distributing conducts Business A, and it conducts the Business B through a separate
division of Distributing. For purposes of satisfying the active trade or business
requirement of section 355(b) with respect to the Distribution, Distributing will rely upon
Business A, and Controlled will rely upon Business B.

Financial information has been submitted in accordance with Rev. Proc. 2017-52
indicating that Business A and Business B each has had gross receipts and operating
expenses representing the active conduct of a trade or business for each of the past
five years.

Distributing owns Sub 1, a State A corporation. Sub 1 provides certain services to the
division of Distributing that conducts Business B.

Parent owns all of the interests in LLC 1, a state A limited liability company that has
elected to be taxed as a corporation for federal income tax purposes. LLC 1 owns all of
the interests in LLC 2, a state A limited liability company, which is disregarded as an
entity separate from LLC 1 for U.S. federal income tax purposes. LLC 2 receives certain
services from Distributing’s employees that conduct Business B.

Distributing has various debts that it intends to satisfy as part of the Proposed
Transaction. In particular, it has Short-Term Debt that will mature on Date 1. Distributing
will refinance the Short-Term Debt on or prior to its maturity date with the Refinanced
Debt. Additionally, in its ordinary course of business, Distributing routinely borrows
under an ongoing commercial paper (“Commercial Paper”) program under the Credit
Facility. Distributing has approximately $b of Commercial Paper outstanding.
Distributing has approximately $c of Long-Term Debt. Together, the Refinanced Debt,
the Commercial Paper, and Long-Term Debt are Distributing's “Distributing Debt.”

                                  Proposed Transaction

For what are represented to be valid business purposes, Distributing proposes to
engage in the following steps to separate Business A from Business B (collectively, the
“Proposed Transaction”):

1.   Distributing will form Controlled.

2.   Distributing will transfer the assets comprising Business B and all of the issued and
     outstanding stock of Sub 1 (the “Contribution”) to Controlled in exchange for
     Controlled common stock and the assumption by Controlled of liabilities associated
PLR-118877-22                                   5

     with the transferred assets and liabilities described in Step 3.

3.   For regulatory and business reasons, Controlled will enter into a bridge loan with
     Distributing (the “Controlled Loan”). The Controlled Loan will have a maturity date
     not to exceed e months following the date of the Distribution. The principal amount
     of the Controlled Loan on the date of the Distribution will equal Controlled’s
     allocable share of the Distributing Debt ($d).

4.   Distributing will distribute all of the Controlled stock to Parent (the “Distribution”).

5.   Parent will form Sub 2. Sub 2 will serve as a holding company for all of Parent’s
     State A operations in the a business.

6.   Immediately after the Distribution, Parent will contribute all of the stock of Controlled
     to Sub 2. As a result, Controlled will become a wholly owned subsidiary of Sub 2.

7.   After the Distribution, Parent will cause LLC 1 to merge into Sub 2 with Sub 2
     surviving.

8.   After the Distribution and prior to the repayment of the Controlled Loan, Distributing
     will make advances to Controlled, as needed, for Business B. Such advances
     (“Additional Loans”) will be added to the principal amount of the Controlled Loan.

9.   Within e months after the Distribution:

     a. Controlled will enter into the New Bank Debt with one or more banks and intends
     to incur the New Long-Term Debt. The precise amount of both borrowings will
     depend on market considerations and working-capital determinations at such time.

     b. Controlled will repay the Controlled Loan and the Additional Loans.

     c. Distributing will use an amount of cash equal to the proceeds from the repayment
     of the Controlled Loan to repay principal and interest of Distributing Debt.

     d. Distributing will use an amount of cash equal to the proceeds from the repayment
     of the Additional Loans to repay Commercial Paper.

10. In connection with the Proposed Transaction, Distributing and Controlled will have
    entered into or will enter into agreements (the “Continuing Relationships”) intended
    to govern their relationship (and that of their respective subsidiaries) following the
    Proposed Transaction.

                                       Representations

Except as set forth below, Distributing has made all of the representations in section 3
of the Appendix to Rev. Proc. 2017-52 with respect to the Proposed Transaction:
PLR-118877-22                                6

    1. Distributing has made the following alternative representations:

      Representations 3(a), 8(b), 15(a), 22(a), 31(a), and 41(a).

    2. Distributing has not made the following representations, which do not apply to the
      Proposed Transaction:

      Representations 7, 20, 24, 25, and 35.

    3. Distributing has made the following modified representations:

      Representation 11: Following the Distribution, Distributing or the DSAG and
      Controlled or the CSAG each will continue, independently and with its separate
      employees, the active conduct of its share of all the integrated activities of the
      business on which it relies to meet the active trade or business requirement of
      §355(b), as conducted by Distributing or the DSAG prior to consummation of the
      transaction. Following the Distribution, Controlled will also rely on Shared
      Services performed by the Shared Services Employees.

      Representation 32. Following the Distribution, Controlled will be indebted to
      Distributing (Controlled Loan) for a period not to exceed e months following the
      date of the Distribution. Apart from the Controlled Loan and the Additional Loans,
      no intercorporate debt will exist between Distributing and Controlled at the time
      of, or subsequent to, the Distribution of Controlled Stock.

      Representation 33. Except with respect to Shared Services, payments made in
      connection with all continuing transactions, if any, between Distributing and
      Controlled after the Distribution will be for fair market value based on the arm's-
      length terms. Shared Services will be provided based on allocable costs.

Except as set forth below, Distributing has made all of the representations in section
3.04 of Rev. Proc. 2018-53 with respect to the Proposed Transaction.

Distributing has made the following modified representation:

      Representation 4: Distributing incurred the Distributing Debt that will be assumed
      or satisfied (a) before the request for any relevant ruling is submitted and no later
      than 60 days before the earliest of the following dates: (i) the date of the first
      public announcement (as defined in Treas. Reg. §1.355-7(h)(10)) of the Divisive
      Reorganization or a similar transaction, (ii) the date of the entry by Distributing
      into a binding agreement to engage in the Divisive Reorganization or a similar
      transaction, and (iii) the date of approval of the Divisive Reorganization or a
      similar transaction by the board of directors of Distributing or (b) after the request
      for any relevant ruling is submitted, provided that the proceeds of the issuance of
      such debt were used to satisfy other debt of Distributing that was incurred no
PLR-118877-22                                7

      later than the time described in clause (a) of this representation.

      Representation 6: There are one or more substantial business reasons for any
      delay in satisfying Distributing Debt with §361 Consideration beyond 30 days
      after the date of the first distribution of Controlled Stock to Distributing’s
      shareholder. All of the Distributing Debt that will be satisfied with §361
      Consideration will be satisfied no later than e months after such distribution.

                                         Rulings

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

1. The Contribution, together with the Distribution, will qualify as a “reorganization”
   within the meaning of sections 368(a)(1)(D) and 355. Distributing and Controlled will
   each be “a party to the reorganization” within the meaning of section 368(b).

2. Distributing will recognize no gain or loss on the Contribution. Sections 357(a) and
   361(a).

3. Controlled will recognize no gain or loss on the Contribution. Section 1032(a).

4. Controlled’s basis in each asset received in the Contribution will be the same as the
   basis of that asset in the hands of Distributing immediately prior to the Contribution.
   Section 362(b).

5. Controlled’s holding period in each asset received in the Contribution will include
   the period during which Distributing held such asset. Section 1223(2).

6. Distributing will recognize no gain or loss on the Distribution. Section 361(c)(1).

7. Parent will recognize no gain or loss (and no amount will be includable in its
   income) on the receipt of the stock of Controlled in the Distribution. Section 355(a).

8. Parent’s aggregate basis in the common stock of Distributing and the common
   stock of Controlled immediately after the Distribution will be the same as Parent’s
   basis in the stock of Distributing immediately before the Distribution, allocated
   between common stock of Controlled and the common stock of Distributing in
   proportion to the respective fair market values of each in accordance with Treas.
   Reg. §1.358-2(a)(2). Section 358(a), (b), and (c).

9. Parent’s holding period of the Controlled stock received in the Distribution will
   include the holding period of the shares of Distributing with respect to which the
   Distribution will be made, provided that such shares are held as capital assets on
   the date of the Distribution. Section 1223(1).
PLR-118877-22                                      8

10. The earnings and profits of Distributing will be allocated between Distributing and
    Controlled will be made in accordance with section 312(h) and Treas. Reg.
    §§1.312-10(a) and 1.1502-33(e)(3).

                                               Caveats

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax treatment of the proposed transactions under any provision of the Code and
regulations or the tax treatment of any condition existing at the time of, or effects
resulting from, the Proposed Transaction that is not specifically addressed by this letter.

                                         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.

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.

Pursuant to the Power of Attorney on file with this office, a copy of this letter is being
sent to your authorized representatives.




                                                Sincerely,


                                                _Robert M. Rhyne_________
                                                Robert M. Rhyne
                                                Assistant to the Branch Chief, Branch 2
                                                Office of Associate Chief Counsel (Corporate)


cc:
-----------------------------
--------------------------------------
---------------------------
-------------------------------