IRS rulings provide clarity to multi-step intercompany reorganizations
INSIGHT ARTICLE |
With the issuance of new revenue rulings 2015-9 and 2015-10, the IRS provided welcome guidance on the application of step-transaction doctrine to certain section 351 transfers of subsidiary stock followed by the elimination of the transferred subsidiary. In doing so, the IRS also revoked Rev. Rul. 78-130, which held contrary to the underpinnings of the new rulings.
Under the facts of Rev. Rul. 2015-9, P is a U.S. parent of a group of companies located in Country R. For valid business purposes, P transfers all of the stock of its subsidiary S-1 to S-2 (its foreign holding company) for additional stock (a section 351 exchange). P entered into a gain recognition agreement pursuant to Reg. section 1.367(a)-8 with respect to the section 351 transfer of S-1 stock and took into account the application of Reg. section 1.367(b)-4, which may require certain U.S. shareholders take into account a deemed dividend (the 1248 amount) attributable to the stock exchanged in the section 351 transfer.
Subsequently, S-1, X, Y and Z (additional foreign operating subsidiaries) transferred all of their assets to N‒a newly incorporated company-in exchange for stock in N. After the transfer, S-1, X, Y and Z liquidated and distribute the stock of N to S-2. A summary of the transactions is as follows:
In general, a purported section 351 transfer of subsidiary stock followed by the prearranged elimination of the subsidiary is recast under step-transaction as an asset transaction, which usually must meet more stringent requirements to receive tax deferred treatment. In Rev. Rul. 2015-9, the IRS acknowledged the general application of step-transaction to such a transaction, but held that step-transaction need not collapse the transaction to properly reflect its substance, and as such, revoked Rev. Rul. 78-130.
In Rev. Rul. 2015-10, the IRS addressed a similar issue involving what is commonly referred to as a "triple drop and check" transaction. In this ruling, a direct subsidiary of a parent corporation is transferred down in three successive downstream transfers (the triple drop) after which an election is made to convert the subsidiary into a disregarded entity (the check). Prior to the new rulings and in light of Rev. Rul. 78-130, the tax result of this transaction was questionable. Did this transaction represent successive section 351 transactions followed by a liquidation, D reorganization or even a taxable exchange? Providing clarity to the situation, the IRS rules in Rev. Rul. 2015-10 that this transaction is properly treated as two section 351 transfers followed by a D reorganization.
Clarity is almost always a good thing. The new rulings provide that clarity in what is favorable guidance to most intercompany restructurings. However, it is important to remember that these rulings do not necessarily change the application of step-transaction to prearranged plans outside the scope of the rulings. Taxpayers should consult their tax advisor before entering into any corporate restructuring.