IRS approves liability, debt exchange, and retained-stake issues in corporate spinoff

Plain-English summary

A public company planned to separate one business into a newly public controlled corporation through contributions, debt assumptions, securities and cash transfers, and distributions of controlled stock. Some controlled securities and retained stock would be exchanged through financial institutions for the distributing company's debt, while cash could be used to pay creditors, fund a pension plan, or make shareholder distributions. The IRS ruled that specified contingent employee, lease, and settlement liabilities would be excluded from the assumed-liability calculations because they had not yet produced deductions or basis. It treated the pension plan as a creditor up to the specified amount and ruled that the financial institutions and an underwriter over-allotment option would not prevent section 361(c)(3) treatment. The cash purges and timely later stock distributions would be treated as made under the reorganization plan without requiring cash tracing. It also ruled that retaining part of the controlled stock for up to five years before disposition would not itself show a principal tax-avoidance purpose. All rulings depended on the transactions otherwise qualifying under sections 355 and 368(a)(1)(D).

Ruling snapshot

• Question: How will contingent liabilities, pension payments, debt exchanges, cash distributions, and a temporary retained stake be treated in the proposed section 355 spinoff?
• Outcome: approved on the five discrete issues, assuming the transaction otherwise qualifies
• Key authorities: IRC §§ 355, 357, 358, 361, and 368(a)(1)(D); Rev. Proc. 2016-1

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201703012 Third Party Communication: None
Release Date: 1/20/2017 Date of Communication: Not Applicable
Index Number: 357.02-02, 361.02-02,
355.05-01 Person To Contact:
--------------------------, ID No. ----------------
----------------------------- -----------------
------------------------------------------ Telephone Number:
------------------------- ----------------------
------------------------- Refer Reply To:
------------------------------ CC:CORP:BO1
In Re: PLR-116160-16
------------------------- Date:
September 20, 2016

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

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

Business A = -----------------------------------------------------------------------

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

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

State X = --------------

State Y = --------------

Pension Plan = ------------------------------------------------------------------------

Pension Plan Amount = -------------------

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PLR-116160-16 2

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Financial Statements = ------------------------------------------------------------------------

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a = --------------------------------------

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

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

d = ----

e = ----

f = ----------

g = -----------

h = ----

i = --------------

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k = ---------------

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

   This letter responds to your authorized representatives’ letter dated May 13,

2016, requesting a ruling on certain federal income tax consequences of a proposed
transaction (the “Proposed Transaction”). The information submitted in that request and
subsequent correspondence is summarized below.
PLR-116160-16 3

    The ruling contained in this letter is based on facts and representations submitted

by the taxpayer and accompanied by a penalty of perjury statement executed by an
appropriate party. This office has not verified any of the materials submitted in support
of the request for rulings. Verification of the information, representations, and other
data may be required as part of the audit process.

   This letter and the rulings contained herein are issued pursuant to section 6.03 of

Rev. Proc. 2016-1, 2016-1 I.R.B. 1, 19, regarding one or more significant issues under
sections 355, 357, and 361, and only address one or more discrete legal issues
involved in the transaction. This Office expresses no opinion as to the overall tax
consequences of the Proposed Transaction described in this letter or as to any issue
not specifically addressed by the rulings below.

                               Summary of Facts

   Distributing is a publicly traded State X corporation and the parent of a worldwide

group of entities that conduct Business A and Business B. The domestic portion of
Business B is conducted primarily by Business B LLC, a State Y limited liability
company, and its subsidiaries. Business B LLC is wholly owned by Distributing and
disregarded as an entity separate from Distributing for federal income tax purposes (a
“DRE”) under § 301.7701-3(b)(ii) of the Procedure and Administration Regulations.
The foreign portion of Business B is conducted by direct and indirect subsidiaries of
Distributing.

                             Proposed Transaction

   The proposed transaction will be done to separate Business B from Business A

into Controlled, a separate, publicly traded corporation. In the transaction steps
described below, debt described as issued or assumed by Controlled includes debt
issued or assumed by a subsidiary of Controlled that is a DRE.

   (i) Controlled has been formed as a new, first-tier domestic subsidiary of

Distributing.

    (ii) Distributing will borrow from third-party lenders the Assumable Debt in the

expected amount of a dollars. This debt, by its terms, is assumable by Controlled and
will be assumed by Controlled in step (iii), below. Distributing will use the proceeds of
the Assumable Debt solely to satisfy its liabilities to the Pension Plan, repay its
creditors, and/or make distributions to Distributing shareholders.

   (iii) Distributing will transfer to Controlled all the equity interests in Business B

LLC and any other Business B assets and entities it holds directly in exchange for: (a)
Controlled common stock and, potentially, Controlled preferred stock, (b) debt securities
(the “Controlled Securities”) issued by Controlled in the expected amount of b dollars,
(c) cash in the expected amount of c dollars (the “Cash Amount”) that will be funded by
PLR-116160-16 4

newly issued Controlled debt (the “Controlled Debt”), and (d) the assumption by
Controlled of the Assumable Debt and certain other liabilities of Distributing (the
“Contribution”). Distributing will effect a series of steps pursuant to which the foreign
portion of Business B will be transferred to Controlled.

   (iv) Distributing expects to exchange all or part of the Controlled Securities

received in step (iii) in exchange for outstanding Distributing debt that had been
recently purchased by a group of financial institutions (the “DE Distributing Debt”). This
transaction is the “Debt Exchange”. These financial institutions will have held the DE
Distributing Debt for their own account for a period of at least f days before entering into
an exchange agreement with Distributing to exchange the DE Distributing Debt for the
Controlled Securities, and for a period of at least g days before effecting that
exchange.

    (v) No more than d months after the initial distribution of Controlled stock to

Distributing’s shareholders, Distributing will transfer all or part of the Cash Amount to its
creditors in satisfaction of existing Distributing debt (the “Debt Cash Purge”), and
distribute any remaining part of the Cash Amount to its shareholders, including in the
form of regular quarterly dividends (the “Dividend Cash Purge”). The Debt Cash Purge
may include a payment to the Pension Plan. Payments to the Pension Plan made as
part of the Debt Cash Purge and/or from the proceeds of the Assumable Debt will not
exceed the Pension Plan Amount.

     (vi) Distributing will distribute at least 80 percent of the common stock of

Controlled pro rata to Distributing common shareholders (the “Initial Distribution”). In
addition, if Distributing received any Controlled preferred stock in step (iii), it will
distribute 100 percent of that preferred stock to the Distributing preferred shareholder. If
Distributing distributes less than 100 percent of the Controlled stock in the Initial
Distribution, then Distributing intends to, within e months after the Initial Distribution and
pursuant to a single integrated plan, distribute the remaining stock of Controlled (the
“Retained Stake”) through either or both of (a) the Equity Exchange (described in step
(vii), below), or (b) one or more distributions of Controlled stock to Distributing
shareholders, either through distributions of Controlled stock in redemption of
Distributing stock pursuant to a public exchange offer, or pro rata distributions to
Distributing shareholders (the transactions described in clauses (a) and (b), collectively,
the “Subsequent Distributions”). Distributing will dispose of the Retained Stake as soon
as reasonably practicable following the Initial Distribution and, in any event, no later
than five years following the Initial Distribution.

   (vii) Distributing expects to exchange all or part of the Retained Stake for

outstanding Distributing debt that that will have been recently purchased by a group of
financial institutions (the “EE Distributing Debt”). This transaction is the “Equity
Exchange.” These financial institutions will have held the EE Distributing Debt for their
own account for a period of at least f before entering into an exchange agreement with
PLR-116160-16 5

Distributing to exchange the EE Distributing Debt for the Controlled stock, and for a
period of at least g before effecting that exchange. This exchange and related
transactions may be repeated one or more times, depending on how much Controlled
stock Distributing exchanges.

   Although the financial institutions involved in the Equity Exchange would engage

the underwriters to sell a specific amount of Controlled stock in an offering, the
underwriting agreement may allow the underwriters the option to purchase up to h
percent more Controlled stock from the financial institutions for a period of time after the
offering (the “Over-Allotment Option”).

     Distributing states that certain liabilities of Distributing that will be assumed by

Controlled relating to certain employee benefits, leases, and legal settlements will, at
the time of their assumption, not have given rise to a deduction or resulted in the
creation of, or increase in the basis of, any property. These liabilities (the “Specified
Liabilities”) will become deductible by Controlled if and when they satisfy the timing and
certainty requirements for a deduction under Controlled’s method of tax accounting.

   The aggregate amount of Controlled debt immediately after the Proposed

Transaction will not exceed i dollars. This amount of debt is consistent with a capital
structure that is appropriate for Controlled, taking into account Controlled’s business, its
industry, its projected income and cash flow requirements, and certain other factors.
The amount of debt incurred by Controlled will be determined in part based on feedback
from corporate debt rating agencies.

                                 Representations

  Taxpayer has submitted the following representations in connection with the

proposed transaction.

   (a) The incurrence of the Specified Liabilities did not result in the creation of, or

increase in, the basis of any property.

   (b) The Specified Liabilities may be accrued by Distributing for financial

accounting purposes, but will not meet the timing or certainty requirements to be
deducted under Distributing’s method of tax accounting. The Specified Liabilities will
become deductible by Controlled if and when they satisfy the timing and certainty
requirements for a deduction under Controlled’s method of tax accounting after the
Contribution.

   (c) The total adjusted bases and the fair market value of the assets transferred

to Controlled by Distributing will each equal or exceed the sum of (a) the total liabilities
assumed (within the meaning of section 357(d), but excluding any liabilities to which
section 357(c)(3) applies) by Controlled, and (b) the total amount of money and the fair
PLR-116160-16 6

market value of any property included in “other property or money” (within the meaning
of section 361(b)) received by Distributing and Controlled and transferred to
Distributing’s creditors in connection with the transaction.

   (d) The liabilities assumed (within the meaning of section 357(a)) by Controlled in

the Contribution were (i) incurred in the ordinary course of business and are associated
with the assets transferred (or deemed transferred for U.S. federal income tax
purposes) to Controlled in connection with the Contribution) or (ii) incurred to facilitate
the appropriate liquidity and capital structure for each of Distributing and Controlled.

     (e) The amount of Distributing debt that will be repaid or otherwise retired as part

of (i) the Debt Cash Purge, (ii) the Debt Assumption, (iii) the Debt Exchange, and (iv)
the Equity Exchange will not, in the aggregate, exceed the weighted quarterly average
of third party debt of Distributing for the 12-month period ending on the close of the last
full business day before the date on which Distributing’s board of directors initially
discussed the separation.

   (f) Neither the DE Distributing Debt exchanged for Controlled Securities

pursuant to the Debt Exchange, nor the EE Distributing Debt exchanged for Controlled
stock pursuant to the Equity Exchange was incurred in anticipation of the Spinoff.

     (g) If Distributing distributes less than 100 percent of the Controlled stock in the

Initial Distribution, it will do so in order to facilitate an appropriate capital structure for
Distributing and Controlled.

     (h) No person who was a shareholder of Distributing on the record date for the

Initial Distribution will receive a 50 percent or greater interest in Controlled solely by
virtue of receiving stock in Controlled in the Initial Distribution and the Subsequent
Distributions.

     (i) None of Distributing’s directors or officers will serve as a director or officer of

Controlled as long as Distributing retains all or a portion of the Retained Stake, except
that if k of Distributing’s directors or officers serve as a director of Controlled while
Distributing retains all or a portion of the Retained Stake, each will do so solely to
accommodate Controlled’s business need for a director with his or her unique
experience or expertise and provide a sense of continuity.

    (j) Distributing will dispose of the Retained Stake as soon as reasonably

practicable following the Initial Distribution and, in any event, no later than five years
following the Initial Distribution.

   (k). Distributing will vote its Controlled stock in the same proportion to the votes

cast by Controlled’s other shareholders.
PLR-116160-16 7

   (l) The amount of Controlled stock Distributing exchanges in the Equity

Exchange (taking into account any additional amount of Controlled stock exchanged as
a result of the exercise of the Over-Allotment Option) will not under any circumstances
exceed 20 percent of the aggregate amount of Controlled stock outstanding.

                                      Rulings

  Based on the information submitted and the representations set forth above, and

provided that the relevant transactions otherwise qualify under sections 355 and
368(a)(1)(D), we rule as follows:

     (1) The Specified Liabilities will be excluded in determining the amount of

liabilities of Distributing assumed by Controlled for purposes of sections 357(a), 357(c),
358(d), and 361(c)(3).

  (2) The Pension Plan will be treated as a creditor of Distributing to the extent of

the Pension Plan Amount for purposes of section 361(b)(3) and 361(c)(3).

   (3) The involvement of the Financial Institutions in the Exchanges will not

preclude the application of section 361(c)(3) to the Debt Exchange and the Equity
Exchange. The exercise of the Over-Allotment Option by the underwriters involved in
the Equity Exchange will not preclude the application of section 361(c)(3) to any portion
of the Equity Exchange.

    (4) The Debt Cash Purge and the Dividend Cash Purge will be treated as being

distributed pursuant to the plan of reorganization for purposes of sections 361(b)(1)(A)
and 361(b)(3). Distributing will not be required to segregate or otherwise trace the cash
received from Controlled in the Contribution. Any Subsequent Distributions that occur
within e months of the Initial Distribution will be treated as occurring pursuant to the plan
of reorganization for purposes of sections 361(c)(1) and 361(c)(3).

    (5) Distributing’s continued ownership of the Retained Stake until its disposition

within five years of the Initial Distribution will not be in pursuance of a plan having as
one of its principal purposes the avoidance of U.S. federal income tax for purposes of
section 355(a)(1)(D)(ii).

                                      Caveats

   Except as specifically provided herein, no opinion is expressed or implied

concerning the tax treatment of the proposed transaction under any provisions 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 are not specifically covered by the
above rulings. In particular, no opinion is expressed as to the tax treatment of the
transactions in which the foreign portion of Business B will be transferred to Controlled.
PLR-116160-16 8

Also, no opinion is expressed as to whether the Specified Liabilities are, in fact,
liabilities that will give rise to a deduction for federal income tax purposes.

                             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 (PLR-116160-16) of this letter ruling.

    In accordance with the Power of Attorney on file with this office, copies of this

letter are being sent to two of your authorized representatives.

                                                     Sincerely,



                                                     _________________________
                                                     Isaac W. Zimbalist
                                                     Senior Technician Reviewer
                                                     Branch 3
                                                     Office of Associate Chief Counsel
                                                     (Corporate)

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