Bankruptcy liquidating trust keeps its trust status even after its term is extended again

Plain-English summary

A trust was created out of a company's Chapter 11 bankruptcy reorganization
plan to liquidate the debtor's assets and pay creditors. The Bankruptcy
Court had already extended the trust's wind-down deadline twice, and because
some legal claims remained unresolved, the trustee planned to ask for one
more extension. The trust asked the IRS to confirm that it still counts as a
"liquidating trust" under Treasury Regulation § 301.7701-4(d), which matters
because a liquidating trust is taxed as a grantor trust: the trust itself
pays no entity-level tax, and the beneficiaries are treated as the owners
who report the income. The IRS ruled that the trust met all the conditions
of Rev. Proc. 94-45 and that pushing the termination date out further would
not change its classification, so it remains a grantor trust with its
beneficiaries taxed as owners under IRC §§ 671 and 677. Anyone running a
prolonged bankruptcy liquidation cares because dragging out the timeline
risks losing this favorable pass-through treatment if the liquidation looks
like a business instead of a wind-down.

Ruling snapshot

• Question: Does a Chapter 11 liquidating trust keep its § 301.7701-4(d) status when its termination date is extended again?
• Outcome: Approved (still a liquidating trust; still a grantor trust)
• Key authorities: Treas. Reg. § 301.7701-4(d); Rev. Proc. 94-45; IRC §§ 671, 677; Treas. Reg. § 1.671-4(a)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201917001 Third Party Communication: None
Release Date: 4/26/2019 Date of Communication: Not Applicable
Index Number: 7701.00-00, 7701.03-00,
7701.03-06 Person To Contact:
----------, ID No. ------
-------------------------------------------- Telephone Number:
----------------------- ----------
-------------------------------------------- Refer Reply To:
----------------------------------------------- CC:PSI:B01
------------------------------------- PLR-115902-18
Date:
November 6, 2018

Legend

Trust = ----------

Debtor = ----------

Date 1 = -----------------

Date 2 = -------------------

Date 3 = ---------------------------

Date 4 = -------------------

Date 5 = -------------------

Date 6 = -------------------

Date 7 = -------------------

Date 8 = -------------------

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

This is in response to your letter dated May 4, 2018 submitted on behalf of Trust,
requesting a ruling regarding the classification of Trust as a liquidating trust under
§ 301.7701-4(d) of the Procedure and Administration Regulations.

FACTS

The information submitted states that, on Date 1, Debtor filed a voluntary bankruptcy
petition under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy
Court. On Date 2, the Court entered a confirmation order (Order) confirming a Plan of
Reorganization dated as of Date 3 (the "Plan") effective as of Date 4. In accordance
with the Plan and the Order, Trust was established. Trust was initially set to terminate
on Date 5. The Bankruptcy Court, however, subsequently extended the term of Trust to
Date 6 and then to Date 7. Because of unresolved legal claims, Trustee intends to
motion the Bankruptcy Court to extend the termination date of Trust to Date 8.

Pursuant to the provisions of the Plan and the Trust agreement, Trust was created for
the purpose of liquidating the assets of Trust, with no objective to continue or engage in
the conduct of a trade or business except to the extent reasonably necessary to, and
consistent with, the liquidating purpose of Trust. Trust shall not receive or retain cash in
excess of a reasonable amount to meet claims and contingent liabilities (including
disputed claims) or to maintain the value of the assets during liquidation. Cash not
available for distribution and cash pending distribution will be held in demand and time
deposits, such as short-term certificates of deposit, in banks or other savings
institutions, or other temporary, liquid investments such as Treasury bills. Trust is
required, under the terms of Trust, to distribute to the beneficiaries of Trust at least
annually its net income and all net proceeds from the sale of Trust's assets, except that
Trust may retain an amount of net proceeds or net income reasonably necessary to
maintain the value of the property or to meet claims or contingent liabilities.

Trust provides that the beneficiaries of Trust will be treated as the grantors and deemed
owners of Trust. It further provides that the parties will value all assets transferred to
Trust consistently and use such values for all federal income tax purposes.

Trust provides that the trustee of Trust shall file tax returns as a grantor trust pursuant to
§ 1.671-4(a) of the Income Tax Regulations.

Trust, consistent with the requirements set out in Rev. Proc. 94-45, 1994-2 C.B. 684,
indicates that the transfer of Trust assets to Trust have been treated for all federal tax
purposes as a deemed transfer by the Debtor to the beneficiaries followed by a deemed
transfer by the beneficiaries to Trust.

As of the date of the request, Trust has distributed amounts in the Trust to its
beneficiaries. Trust represents that, from its establishment, Trust has been formed and
operated consistent with the conditions set out in Rev. Proc. 94-45. Trust now
represents that certain developments, generally beyond the control of the trustee of
Trust, have occurred that make it impossible to completely liquidate Trust by Date 7, the
end of its current extension.

LAW AND ANALYSIS

Section 671 of the Internal Revenue Code provides that where it is specified in subpart
E that the grantor or another person shall be treated as the owner of any portion of a
trust, there then shall be included in computing the taxable income and credits of the
grantor or the other person those items of income, deductions, and credits against tax of
the trust that are attributable to that portion of the trust to the extent that such items
would be taken into account under chapter 1 of the Code in computing taxable income
or credits against the tax of an individual.

Section 1.671-4(a) provides that, except as provided in § 1.671-4(b)(1) and § 1.671-5,
items of income, deduction, and credit attributable to any portion of a trust which, under
the provisions of subpart E (§ 671 and following), part I, subchapter J, chapter 1 of the
Code, are treated as owned by the grantor or another person should not be reported by
the trust on Form 1041, "U.S. Income Tax Return for Estates & Trusts", but should be
shown on a separate statement attached to that form.

Section 677(a) provides, in part, that the grantor shall be treated as the owner of any
portion of a trust, whether or not the grantor is treated as such owner under § 674,
whose income without the approval or consent of any adverse party is, or, in the
discretion of the grantor or a non-adverse party, or both, may be (1) distributed to the
grantor or the grantor's spouse; or (2) held or accumulated for future distribution to the
grantor or the grantor's spouse.

Section 301.7701-4(d) provides that certain organizations which are commonly known
as liquidating trusts are treated as trusts for purposes of the Internal Revenue Code. An
organization will be considered a liquidating trust if it is organized for the primary
purpose of liquidating and distributing the assets transferred to it, and if its activities are
all reasonably necessary to, and consistent with, the accomplishment of that purpose. A
liquidating trust is treated as a trust for purposes of the Code because it is formed with
the objective of liquidating particular assets and not as an organization having as its
purpose the carrying on of a profit-making business which normally would be conducted
through business organizations classified as corporations or partnerships. However, if
the liquidation is unreasonably prolonged or if the liquidation purpose becomes so
obscured by business activities that the declared purpose of liquidation can be said to
be lost or abandoned, the status of the organization will no longer be that of a liquidating
trust.

Rev. Proc. 94-45 provides the conditions under which the Service will consider issuing
advance rulings classifying certain trusts as liquidating trusts under § 301.7701-4(d).
Rev. Proc. 94-45 states that the Service will issue a ruling classifying an entity created
pursuant to a bankruptcy plan under Chapter 11 of the Bankruptcy Code, 11 U.S.C.
§ 1101, et. seq. (1988), as a liquidating trust under § 301.7701-4(d) if certain specified
conditions are met.

CONCLUSIONS

Based on the information submitted and the representations made, we conclude that
the conditions of Rev. Proc. 94-45 have been satisfied. Accordingly, based on the
representations made and the information submitted, we rule that Trust is classified for
federal tax purposes as a liquidating trust under § 301.7701-4(d) and the extension of
Trust's term to Date 8 will not affect that determination. Therefore, Trust will continue to
be treated as a grantor trust and the beneficiaries of Trust will continue to be treated as
the owners of Trust under §§ 671 and 677.

The rulings contained in this letter are based upon information and representations
submitted by the taxpayer and accompanied by a penalty of perjury statement executed
by an appropriate party. While this office has not verified any of the material submitted
in support of the request for rulings, it is subject to verification on examination.

Except as expressly provided herein, no opinion is expressed or implied concerning the
tax consequences of any aspect of any transaction or item discussed or referenced in
this letter.

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.

In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to Trust's authorized representative.

                                   Sincerely,


                                   Faith P. Colson
                                   Faith P. Colson
                                   Senior Counsel, Branch 1
                                   (Passthroughs & Special Industries)

Enclosures (2)
Copy of this letter
Copy for § 6110 purposes

cc: