When a loss-making subsidiary merges into a newly formed, not-yet-capitalized single-member LLC owned by its sister corporation (as part of a corporate simplification), does the subsidiary's unused Tennessee net operating loss carry over to the LLC or become usable by the sister corporation going forward?

Subject

Whether a subsidiary's net operating loss survives a merger into a single-member LLC owned by a sister corporation.

Plain-English summary

The Tennessee Department of Revenue ruled that a subsidiary's unused Tennessee net operating loss (NOL) does not survive — and cannot later be used by its sister corporation — when a holding company simplifies its structure by merging the loss-making subsidiary ("Company B") into a newly formed single-member LLC ("SMLLC") owned by its profitable sister corporation ("Company A").

Both Company A and Company B were wholly owned by the same holding company. Company A did business in and outside Tennessee with no NOL of its own; Company B operated only within Tennessee and had racked up Tennessee losses since 2000. To combine them into one tax-paying entity, Company A would form a new SMLLC, and — before that SMLLC ever had any income, expenses, assets, liabilities, equity, or net worth of its own (i.e., before it was ever capitalized) — Company B would merge into it, with the SMLLC surviving.

The Department confirmed the SMLLC itself would be disregarded for Tennessee franchise and excise tax purposes (since it's a single-member LLC, disregarded federally, wholly owned by a corporation) and treated as a mere division of Company A. That disregarded-entity treatment turned out to be exactly why the plan didn't work as hoped: because the SMLLC is legally just a division of Company A, the merger of Company B into the SMLLC is treated as Company B merging directly into Company A itself — not into an empty shell. Tennessee's NOL rule allows a loss to transfer to a successor only if that successor has zero income, expenses, assets, liabilities, equity, or net worth of its own at the time of the merger. Company A, an actively operating business with its own Tennessee taxable income, plainly failed that test. So Company B's Tennessee NOL simply disappeared upon the merger — it didn't transfer to the SMLLC, and it isn't available to reduce Company A's income in any future year.

What this means for you

Corporate groups simplifying structure through SMLLC mergers

Routing a loss-making subsidiary's merger through a newly formed, uncapitalized single-member LLC doesn't create a fresh "empty shell" successor for NOL-preservation purposes if that LLC is owned by an active operating corporation — Tennessee looks through the disregarded LLC to its corporate owner. If preserving a subsidiary's NOL carryforward matters to your restructuring, the "empty shell successor" exception requires the actual successor (looking through any disregarded entities) to have no income, assets, liabilities, or operations of its own — an active sister company doesn't qualify no matter how the merger is technically structured.

Accountants and tax professionals

This ruling is a direct companion to the broader NOL-forfeiture analysis in TN Revenue Ruling 07-14 (dissolution/merger/SMLLC-conversion/F-reorganization), applying the same shell-successor test from Tenn. Code Ann. § 67-4-2006(c)(2)-(3) to a specific pre-capitalization SMLLC-merger structure. The key technical point: because a disregarded SMLLC is treated as a division of its corporate parent under Tenn. Code Ann. §§ 67-4-2007(d)/67-4-2106(c), any merger into that SMLLC is legally a merger into the parent itself for NOL-succession purposes — the disregarded entity provides no separate "successor" identity to hang an NOL transfer on.

Common questions

Q: Does merging a loss subsidiary into a newly formed, uncapitalized SMLLC preserve its NOL?
A: Not if that SMLLC is owned by an active operating corporation. Because the disregarded SMLLC is treated as a division of its owner, the merger is treated as merging directly into that owner — and if the owner isn't an empty shell, the NOL is lost.

Q: Does "prior to capitalization" (the SMLLC having no assets/income yet) change the outcome?
A: No. What matters is whether the ultimate successor — the SMLLC's corporate owner, since the SMLLC is disregarded — has no income, expenses, assets, liabilities, equity, or net worth. An active operating parent fails that test regardless of the SMLLC's own pre-merger emptiness.

Q: Can the NOL be used by the SMLLC's corporate owner in a future year instead?
A: No. Once the NOL is forfeited at the point of merger, it isn't available for carryover and deduction by the surviving corporation in any subsequent tax period.

Q: Does this ruling apply to other corporate groups doing similar restructurings?
A: No. A Tennessee letter ruling binds the Department only for the specific taxpayer and facts addressed and cannot be relied on by others, though the shell-successor NOL test it applies is of general application under the statute.

Citations and references

Statutes:

• Tenn. Code Ann. §§ 67-4-2007(d), 67-4-2106(c) (disregarded-entity classification: SMLLC wholly owned by a corporation, disregarded federally, is disregarded for Tennessee F&E purposes and treated as a division of its owner)
• Tenn. Code Ann. § 67-4-2006(a)(1) (definition of "net earnings"/"net loss")
• Tenn. Code Ann. § 67-4-2006(c)(1) (15-year NOL carryforward)
• Tenn. Code Ann. § 67-4-2006(c)(2) (separate-entity rule: no NOL transfer to a successor on merger, subject to exception)
• Tenn. Code Ann. § 67-4-2006(c)(3) (NOL transfer allowed only when the successor has no income, expenses, assets, liabilities, equity, or net worth)
• Tenn. Code Ann. § 67-4-2004(29) (corporations and LLCs subject to excise tax)

Source

• Landing page: https://www.tn.gov/revenue/tax-resources/legal-resources/tax-rulings.html
• Original PDF: https://www.tn.gov/content/dam/tn/revenue/documents/rulings/fae/06-26fe.pdf

Original ruling text

TENNESSEE DEPARTMENT OF REVENUE
LETTER RULING # 06-26
WARNING
Letter rulings are binding on the Department only with respect to the individual taxpayer
being addressed in the ruling. This presentation of the ruling in a redacted form is
informational only. Rulings are made in response to particular facts presented and are not
intended necessarily as statements of Department policy.
SUBJECT
The availability of a qualified Tennessee net operating loss carryover to a corporation that is the
single member of a previously uncapitalized limited liability company, where the loss was
generated by an affiliated corporation that merged out of existence and into the limited liability
company.
SCOPE
This letter ruling is an interpretation and application of the tax law as it relates to a specific set of
existing facts furnished to the Department by the taxpayer. The rulings herein are binding upon
the Department, and are applicable only to the individual taxpayer being addressed.
This letter ruling may be revoked or modified by the Commissioner at any time. Such
revocation or modification shall be effective retroactively unless the following conditions are
met, in which case the revocation shall be prospective only:
(A) The taxpayer must not have misstated or omitted material facts involved in
the transaction;
(B) Facts that develop later must not be materially different from the facts upon
which the ruling was based;
(C) The applicable law must not have been changed or amended;
(D) The ruling must have been issued originally with respect to a prospective or
proposed transaction; and
(E) The taxpayer directly involved must have acted in good faith in relying upon
the ruling and a retroactive revocation of the ruling must inure to his detriment.
FACTS
[HOLDING COMPANY] is a holding company that owns 100 percent of the common stock of
[COMPANY A] and [Company B]. Holding Company, Company A and Company B are all
managed from within Tennessee. For federal income tax purposes, Holding Company, Company
A and Company B join in the filing of a federal consolidated income tax return.
Holding Company has no active business operations and its activities are limited to the
ownership of the common stock of Company A and Company B. Company A is a [STATE-NOT

TN] corporation that does business both within and without the State of Tennessee. Thus, for
purposes of its Tennessee franchise and excise tax return, Company A is subject to excise tax
based on income apportioned to the state. For the current tax year, it is anticipated that Company
A will have Tennessee taxable income. Company A does not have a Tennessee net operating loss
carryover. Company B is a [STATE – NOT TN] corporation that does business solely within the
State of Tennessee. Company B has incurred taxable losses since calendar year 2000 (the
“Tennessee NOL”). Company B has loss carryovers available to be used in its 2005 Tennessee
franchise and excise tax return. Neither Holding Company, Company A nor Company B are
engaged in the business of a financial institution for Tennessee tax purposes as defined in Tenn.
Code Ann. § 67-4-2004(4)(A).
As part of its plan to simplify its corporate structure, Holding Company desires to combine the
operations of Company A and Company B into a single tax-paying entity for state income tax
purposes, including Tennessee franchise and excise tax purposes. To accomplish this, Company
A will form a [STATE – NOT TN] single member limited liability company (“SMLLC”) and,
prior to the capitalization of SMLLC, Company B will be merged into SMLLC, with SMLLC
remaining as the survivor of the merger. As used in the previous sentence, “prior to
capitalization” means that prior to the merger of Company B, SMLLC will have no income,
expenses, assets, liabilities, equity or net worth, as referenced in Tenn. Code Ann. § 67-42006(c)(3). It is intended that SMLLC be treated as a disregarded entity for federal and
Tennessee income tax purposes. Thus, subsequent to the merger, Company A’s federal taxable
income will include the activity of SMLLC.
ISSUES
1.
Will SMLLC, as the survivor of the merger with Company B, be disregarded for
Tennessee franchise and excise tax purposes?
2.
Will the Tennessee NOL incurred by Company B transfer to SMLLC when Company B
merges out of existence?
3.
Will the Tennessee NOL be available to offset the income of Company A in tax periods
subsequent to the merger?
RULINGS
1.

Yes.

2.

No.

3.

No.
ANALYSIS

1.

SMLLC will be disregarded for Tennessee franchise and excise tax purposes.

SMLLC will at all times be disregarded for Tennessee franchise and excise tax purposes
pursuant to Tenn. Code Ann. §§ 67-4-2007(d) and 67-4-2106(c). As a disregarded entity,
SMLLC will be treated as a division of Company A for Tennessee franchise and excise tax
purposes.
2

Tenn. Code Ann. §§ 67-4-2007(d) and 67-4-2106(c) provide that, for purposes of Tennessee
franchise and excise taxation, a business entity shall be classified as a corporation, partnership,
or other type of business entity, consistent with the way the entity is classified for federal income
tax purposes. Tenn. Code Ann. §§ 67-4-2007(d) and 67-4-2106(c) further provide that “entities
that are disregarded for federal income tax purposes, except for limited liability companies
whose single member is a corporation, shall not be disregarded” for Tennessee franchise and
excise tax purposes. In other words, a single member limited liability company that is
disregarded for federal income tax purposes and that is wholly owned by a corporation will be
disregarded for Tennessee franchise and excise tax purposes.
The taxpayer has represented that SMLLC will be treated as a disregarded entity for federal
income tax purposes. Additionally, SMLLC will at all times be a single member limited liability
company wholly owned by Company A, a corporation. Accordingly, SMLLC will at all times be
disregarded for Tennessee franchise and excise tax purposes pursuant to Tenn. Code Ann. §§ 674-2007(d) and 67-4-2106(c). If a business entity is disregarded, its activities are treated in the
same manner as a sole proprietorship, branch, or division of its owner. See Treas. Reg. §
301.7701-2(a). SMLLC will therefore be treated as a division of Company A for Tennessee
franchise and excise tax purposes.
2.

The Tennessee NOL will not transfer to SMLLC upon merger.

The Tennessee NOL of Company B will not transfer to SMLLC upon the merger of Company B.
The taxpayer has represented that Company B will merge out of existence and into SMLLC. As
a disregarded entity, SMLLC will be treated as a division of Company A for Tennessee franchise
and excise tax purposes. Company B will therefore be treated as having merged out of existence
and into Company A.
Because the merger takes place between Company A and Company B, the Tennessee NOL will
not transfer to SMLLC.
3.

The Tennessee NOL will not be available to offset the income of Company A.

The Tennessee NOL of Company B will not be available for carryover and deduction from the
net earnings of Company A in tax periods subsequent to the merger.
Tennessee imposes an excise tax at the rate of 6.5 percent on the “net earnings” of certain
persons doing business within Tennessee. Tenn. Code Ann. § 67-4-2007(a). Persons subject to
the excise tax include, but are not limited to, corporations and limited liability companies. Tenn.
Code Ann. § 67-4-2004(29). Tenn. Code Ann. § 67-4-2006(a)(1) defines “net earnings” or “net
loss” of a corporation as “federal taxable income or loss before the operating loss deduction and
special deductions provided for in 26 U.S.C. §§ 241-247 and 249, and as adjusted by subsections
(b) and (c) of this section.”
Tenn. Code Ann. § 67-4-2006(c)(1) permits a taxpayer to deduct a net operating loss from its net
earnings in the computation of its Tennessee excise tax liability; qualified net operating losses
may be carried forwarded and deducted for up to fifteen years. Tenn. Code Ann. § 67-42006(c)(2) provides that in the case of mergers, consolidations, and like transactions, no loss
carryovers incurred by the predecessor taxpayer are allowed as a deduction from net earnings on
the excise tax return filed by the successor taxpayer, with the exception set forth in Tenn. Code
3

Ann. § 67-4-2006(c)(3). Tenn. Code Ann. § 67-4-2006(c)(3) provides that when a taxpayer
merges out of existence and into a successor taxpayer that has no income, expenses, assets,
liabilities, equity or net worth, any qualified Tennessee loss carryover of the predecessor that
merged out of existence shall be available for carryover and deduction from the net earnings of
the surviving successor.
The taxpayer has represented that Company B will merge out of existence and into SMLLC. As
a disregarded entity, SMLLC will be treated as a division of Company A for Tennessee franchise
and excise tax purposes. Company B will therefore be treated as having merged out of existence
and into Company A.
Pursuant to Tenn. Code Ann. §§ 67-4-2006(c)(2) and 67-4-2006(c)(3), Company B’s loss
carryover will not be allowed as a deduction from the net earnings of Company A unless
Company A is a successor taxpayer that has no income, expenses, assets, liabilities, equity or net
worth. According to the facts presented by the taxpayer, Company A is actively engaged in
business in Tennessee and has Tennessee taxable income. Accordingly, the Tennessee NOL of
Company B will not be available for carryover and deduction from the net earnings of Company
A in tax periods subsequent to the merger.

Kristin Husat
Tax Counsel

APPROVED:

Loren L. Chumley
Commissioner of Revenue

DATE:

7/11/06

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