How did a same-day multi-entity restructuring affect OldSub's final report, business-loss carryforward, merger credit, and transitory subsidiaries?

Plain-English summary

OldSub could use its business loss on its own final report, but any remainder disappeared rather than transferring to the surviving operating subsidiary.

The taxpayer proposed a five-step, same-day restructuring using three momentary Texas subsidiaries. OldSub's operating assets ultimately moved to NewSub2, while Parent became obligor on OldSub's debt. The taxpayer said federal law would disregard the transitory subsidiaries and treat the restructuring as an I.R.C. Section 368(a)(1)(F) reorganization.

Texas reached four specific results:

• OldSub filed a final report under Section 171.0011 and paid any additional tax;
• OldSub could use its existing business-loss carryforward on that final report, but NewSub2 did not inherit any remainder;
• NewSub2 received a merger credit under Section 171.1531; and
• the transitory Texas subsidiaries filed no franchise-tax reports if they had no Texas receipts during their brief existence.

What this means for you

Corporations restructuring through transitory entities

Federal disregard of momentary entities did not transfer the disappearing corporation's Texas business loss to the ultimate survivor.

Tax professionals

Trace final-report, credit, receipt, and loss consequences separately for each entity in the reorganization chain.

Common questions

Q: Could OldSub use its loss at all?
A: Yes, against its own final taxable earned surplus.

Q: Did NewSub2 inherit the unused balance?
A: No.

Q: Did every transitory corporation file a report?
A: No, assuming it had no Texas receipts while it existed.

Citations and references

• Texas Tax Code Secs. 171.0011 and 171.1531
• I.R.C. Sec. 368(a)(1)(F)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9712358L

Original ruling text

December 16, 1997

Dear Mr. **:

Thank you for your recent letter about the franchise tax treatment of certain
transitory Texas corporations formed solely to engage in certain reorganization
transactions.

Your letter states that Parent corporation ("Parent"), a Delaware corporation,
is a publicly-held company that does not own any operational assets and does
not directly engage in a trade or business. Parent owns one hundred percent of
the stock of an operating subsidiary ("OldSub"), a Delaware corporation that
owns operating assets and stock of other subsidiary corporations (collectively,
the "Operating Assets"), and engages in an active trade or business both within
Texas and in other states. In addition, OldSub is the obligor under four
tranches of publicly-held debt (the "Debt"), each of which is subject to its
own terms and rate, and the payment of two of which is guaranteed by Parent.
OldSub files an annual Texas franchise tax report. Because Parent was formed in
spring of 1997 as a result of certain reorganization transactions, Parent has
not yet filed its initial Texas franchise tax report.

Parent and OldSub will enter a series of mergers (the "Restructuring") designed
to substitute Parent for OldSub as the obligor of the Debt. As a necessary
result of these transactions, a successor to OldSub, rather than OldSub itself,
will be left as the owner of the Operating Assets. The Restructuring will
achieve significant business objectives, including (i) simplifying Parent's
compliance responsibilities under federal securities laws and (ii) facilitating
a refinancing of the Debt or the issuance of new debt on better terms than
would be expected without the Restructuring.

The steps in the Restructuring are as follows:

Step 1: Form New Subsidiaries. Parent will form "DebtCo," a wholly owned
Texas corporation. DebtCo, in turn, will form "AssetCo," a wholly owned Texas
corporation. At the same time, OldSub will form "NewSubl," a wholly owned Texas
corporation. Finally, NewSubl will form "NewSub2," a wholly owned Delaware
corporation. (Collectively, DebtCo, AssetCo, and NewSub 1 are referred to
herein as the "Transitory Subs.")

Step 2: Downstream Merger. OldSub will merge out of existence into its
subsidiary, NewSub1. Accordingly, NewSub1 will acquire the Operating Assets and
assume the Debt.

Step 3: Divisive Merger. Pursuant to Texas law and in accordance with a
Plan of Merger, NewSubl, DebtCo and AssetCo will merge with and into each
other, with DebtCo and AssetCo surviving. As a result of this multiple entity
merger, AssetCo will succeed to the Operating Assets, and DebtCo will assume
the Debt.

Step 4: Merge DebtCo. Pursuant to Texas and Delaware law, DebtCo will merge
"upstream" into Parent, after which Parent will be the obligor on the Debt.

Step 5: Merge AssetCo. Pursuant to Texas and Delaware law, AssetCo will
merge "downstream" into NewSub2, after which NewSub2 will own the Operating
Assets.

All steps of the Restructuring will likely be accomplished in a few minutes and
certainly during the course of a single business day. Therefore, each of the
Transitory Subs will be in existence only momentarily, as documented by the
contemporaneously dated corporate charters and certificates of merger that will
be filed with the Office of the Secretary of State of Texas. The Transitory
Subs will not secure a certificate of authority from the Secretary of State,
nor are they required to do so.

NewSub2, the "surviving" operating subsidiary, will both file a corporate
charter and secure a certificate of authority from the Secretary of State.

For federal income tax purposes, the existence of the Transitory Subs will be
completely disregarded, and the Restructuring will be treated as a
reorganization described in section 368(a)(1)(F) of the Internal Revenue Code
of 1986, as amended (the "I.R.C.").

Concerning the franchise tax consequences of these transactions, our response
is as follows:

(1) OldSub will file a final franchise tax report (the "Final Report")
reflecting the termination of its corporate existence as of the date of the
Restructuring and will pay any additional tax owed, pursuant to section
171.0011 of the Texas Tax Code Ann. (Vernon 1992)(the "Tax Code").

(2) OldSub may use an existing business loss carry forward to offset taxable
earned surplus on its Final Report, but NewSub2 will not succeed to any
remaining business loss carry forward of OldSub. Instead, any such remaining
business loss carry forward will "disappear" as of the date of the
Restructuring.

(3) After the Restructuring, NewSub2 will be permitted a "merger credit"
within the meaning of section 171.1531 of the Tax Code.

(4) The Transitory Subs will not be required to file any Texas franchise
reports assuming that they had no Texas receipts during the time while they
were in existence.

This response is based on the facts presented in your letter. If the facts
change or if there are additional relevant facts, the response may change.

If you have any questions about this or any other franchise tax matters, please
write me or call me toll free at 1-800-531-5441, extension 33958.

Sincerely,

Teresa Comer
Tax Policy Division