United States

Favorable ruling on determining 5-percent owners under section 382


Section 382 limits the ability of a taxpayer to utilize net operating losses (NOLs) or other tax attributes following an “ownership change.” An ownership change occurs when there is a greater than 50 percent increase in ownership by 5-percent shareholders during a testing period. As a result, a taxpayer’s determination of whether a group or entity represents a 5-percent shareholder is critical.

The regulations under section 382 address the identification and determination of 5-percent shareholders. Not surprisingly, this can be a complex undertaking, especially for public companies. One of the rules governing the identification of a 5-percent shareholder is the requirement under Reg. section 1.382-3(a)(1)(i) to combine a group of investors into a single entity under the coordinated acquisition rule. This rule aggregates unrelated shareholders acting pursuant to a common agreement as one “entity” based on facts and circumstances, such as their understandings or communications during the acquisition.

In an effort to reduce the burden placed on public companies, Reg. section 1.382-2T(k) allows public companies to rely on the existence and absence of schedules 13D and 13G filed with the Securities and Exchange Commission (SEC) to identify all of the company’s shareholders with a direct 5 percent or more interest in the company on such date. However, as can be expected, uncertainties arise over how to interpret the information presented on schedules 13D and 13G for section 382 purposes. These uncertainties often require taxpayers to either seek information directly from their investors, which is not always easily obtained, or prepare the section 382 analysis under a worst-case scenario. Consequently, some taxpayers request private letter rulings (PLRs) on the interpretation of the information in schedules 13D and 13G. 

In PLR 201403007, the taxpayer (a publicly traded company) relied on the existence or absence of schedules 13D and 13G to identify direct 5-percent shareholders, utilized a stock surveillance company to monitor certain acquisitions, and inquired directly with some of the persons filing schedule 13G regarding company stock ownership. In this ruling, the taxpayer sought to confirm that a group of related entities included in a single schedule 13G filed with the SEC did not constitute an “entity” for purposes of section 382. 

More specifically, the schedule 13G filer identified itself as a parent holding company or control person. It also indicated that it beneficially owned more than 5 percent of the taxpayer and then listed various related entities as owning a portion of these shares. However, the filer did not indicate the manner in which the related entities owned these shares. The filer did not affirm the existence of a “group” under section 13(d)(3) of the Exchange Act, and the filer did indicate that no one person’s interest in the common stock of the taxpayer was more than 5 percent. 

In a favorable response, the IRS provided that the taxpayer can rely upon (1) its lack of knowledge of a coordinated acquisition by the related entities, and (2) the lack of an affirmative response to the existence of a group by the filer to conclude that the listed entities were not members of a group that constitute an “entity.” With these facts, the IRS did not require the taxpayer to confirm with this specific filer that there was no coordinated acquisition between the entities subject to the filing.

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