IRS lets a consolidated group exclude two deferred intercompany gains from income after internal reorganizations
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This page covers one taxpayer's ruling from 2022, which can't be cited as precedent. Ezel answers your situation under the current Code and IRS guidance, with citations.
Plain-English summary
When members of a consolidated group sell or distribute property to each other, the resulting gain is generally deferred rather than taxed right away, and it comes back into income (a "deferred intercompany gain," or DIG) when a triggering event occurs. Here, a publicly traded parent's group made two internal distributions that each produced a section 311(b) gain, then proposed a chain of reorganizations (conversions to disregarded entities, contributions, and recapitalizations) that would otherwise trigger those deferred gains. The taxpayer asked the IRS to redetermine both gains and exclude them from income under the Commissioner's discretionary rule in the consolidated-return intercompany-transaction regulations (Treas. Reg. § 1.1502-13(c)(6)(ii)(D)). The IRS ruled favorably: both deferred gains are excluded from the group's gross income, are not treated as earnings and profits or tax-exempt income, and the office will enter a closing agreement with the taxpayer. The ruling turns on the group deriving no federal tax benefit from the original intercompany transactions.
Ruling snapshot
- Question: After the proposed reorganizations, must the group recognize its two deferred intercompany gains, or may they be redetermined and excluded from income?
- Outcome: Approved (both deferred gains excluded from income; closing agreement to follow)
- Key authorities: Treas. Reg. § 1.1502-13 (esp. (c)(6)(ii)(D) and (j)(1)); Treas. Reg. § 1.1502-32; IRC §§ 311(b), 332, 351, 368
Full text (IRS public release)
Internal Revenue Service Department of the Treasury
Washington, DC 20224
Number: 202219002 Third Party Communication: None
Release Date: 5/13/2022 Date of Communication: Not Applicable
Index Number: 1502.13-00, 1502.13-01
Person To Contact:
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----- ID No. -----------------
----------------------------------------- Telephone Number:
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----------------------------- Refer Reply To:
CC:CORP:2
PLR-103010-21
Date:
February 11, 2022
Legend
Parent = ---------------------------------------------------------------------------------------------
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OpCo = ---------------------------------------------------------------------------------------------
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T1 = ---------------------------------------------------------------------------------------------
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T2 = ---------------------------------------------------------------------------------------------
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S1 = ---------------------------------------------------------------------------------------------
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S2 = ---------------------------------------------------------------------------------------------
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S3 = ---------------------------------------------------------------------------------------------
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PLR-103010-21 2
S4 = ---------------------------------------------------------------------------------------------
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S5 = ---------------------------------------------------------------------------------------------
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DRE = ---------------------------------------------------------------------------------------------
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Date 1 = ------------------
Date 2 = ---------------------
Date 3 = ---------------------
Date 4 = ---------------------------
State X = -------------
OpCo = ---------------------------------------------------------------------------------------------
Stock ---------------------------------------------------------------------------------------------
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S4 Stock = ---------------------------------------------------------------------------------------------
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Certain = (i) -----------------------------------------------------------------------------------------
Tax -----------------------------------------------------------------------------------------
Matters -----------------------------------------------------------------------------------------
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PLR-103010-21 3
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Dear -------------:
This letter responds to a letter from your authorized representative dated February 10,
2021. In that letter, you requested rulings under Treas. Reg. § 1.1502-13. The material
information submitted in the request and in subsequent correspondences are
summarized below.
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.
Facts
Parent is a publicly traded domestic corporation and the common parent of an affiliated
group of corporations that file a consolidated return for U.S. federal income tax
purposes (the “Parent Group”).
Prior to Date 1, Parent wholly owned OpCo. OpCo wholly owned S1, and S1 owned all
the outstanding common stock of T1. OpCo also wholly owned S2. S2 wholly owned
S3, S3 wholly owned S4, S4 wholly owned S5, and S5 wholly owned T2 through DRE.
DRE was a limited liability company (“LLC”) that was disregarded as separate from its
owner for federal income tax purposes (a “disregarded entity”). Parent, OpCo, S1, T1,
S2, S3, S4, S5, and T2 were members of the Parent Group.
On Date 1, S1 distributed T1 to OpCo, and S1 recognized section 311(b) gain on the
distribution (“DIG 1”). On the same day, OpCo distributed T1 to Parent. OpCo
recognized no further gain on the distribution of T1.
On Date 2, S5 distributed T2 to S4, and S5 recognized section 311(b) gain on the
distribution (“DIG 2”). On the same day, T2 was distributed up the chain to Parent,
through S3, S2, and OpCo. Neither S4, S3, S2, nor OpCo recognized further gain on
the distribution of T2.
On Date 3, Parent contributed T2 to T1.
On Date 4, S2 merged with and into OpCo (the “S2 Merger”).
PLR-103010-21 4
At present, Parent wholly owns OpCo and all the common stock of T1. OpCo wholly
owns S1 and S3. S3 wholly owns S4, which in turn wholly owns S5. T1 wholly owns T2.
Proposed Transaction
The following steps are proposed (collectively, the “Proposed Transaction”):
(i) S1 will convert to an LLC that is treated as a disregarded entity (the “S1
Conversion”).
(ii) OpCo will contribute its interest in S1 to a newly formed State X corporation
that will be a member of the Parent Group.
(iii) Parent will contribute all the common stock of T1 to OpCo for no additional
shares of OpCo stock (the “T1 Contribution”) and T1 will convert to an LLC
that is treated as a disregarded entity (together with the T1 Contribution, the
“T1 Reorganization”). Following the T1 conversion, OpCo will own T2 through
the disregarded T1.
(iv) S5 will elect to be treated as a disregarded entity (the “S5 Conversion”).
(v) T1 will distribute all of its interest in T2 to OpCo in a transaction that is
disregarded for federal income tax purposes.
(vi) OpCo will contribute all its interest in T2 to S3 for no additional shares of S3
stock (the “First T2 Contribution”).
(vii) S3 will contribute all its interest in T2 to S4 for no additional shares of S4
stock (the “Second T2 Contribution”), and T2 will elect to be treated as a
disregarded entity (together with the Second T2 Contribution, the “T2
Reorganization”).
(viii) S4 will contribute all its interest in S5 to a newly formed State X corporation
that will be a member of the Parent Group.
(ix) Parent will exchange all of its OpCo common stock for a new single share of
OpCo Stock (the “OpCo Recapitalization”).
(x) S3 will exchange all of its S4 stock for a new single share of S4 Stock (the
“S4 Recapitalization”).
Representations
(a) The S2 Merger qualified as a liquidation under section 332.
PLR-103010-21 5
(b) The S1 Conversion will qualify as a reorganization under section
368(a)(1)(C).
(c) The T1 Reorganization will qualify as a reorganization under section
368(a)(1)(D).
(d) The S5 Conversion will qualify as a reorganization under section
368(a)(1)(C).
(e) The First T2 Contribution will qualify for treatment under section 351.
(f) The T2 Reorganization will qualify as a reorganization under section
368(a)(1)(D).
(g) The OpCo Recapitalization will qualify as a reorganization under section
368(a)(1)(E).
(h) The S4 Recapitalization will qualify as a reorganization under section
368(a)(1)(E).
(i) The effects of DIG 1 have not previously been reflected, directly or indirectly,
on the Parent Group’s consolidated return.
(j) The effects of DIG 2 have not previously been reflected, directly or indirectly,
on the Parent Group’s consolidated return.
(k) Following the Proposed Transaction, OpCo’s (as successor to S2) basis in S3
is the same as it would have been absent S3’s distribution of T2 to S2 on
Date 2.
(l) Following the Proposed Transaction, Parent’s basis in OpCo will be the same
as it would have been absent OpCo’s distribution of T1 to Parent on Date 1
and OpCo’s distribution of T2 to Parent on Date 2, except for the basis
consequences resulting from the T1 Reorganization.
(m) Following the Proposed Transaction, S3’s basis in S4 will be the same as it
would have been absent S4’s distribution of T2 to S3 on Date 2, except for
the basis consequences resulting from the T2 Reorganization.
(n) OpCo has one class of common stock outstanding, all of which is owned by
Parent.
(o) Parent has held all its shares of OpCo common stock for more than a year, as
determined under section 1223.
PLR-103010-21 6
(p) S4 has one class of common stock outstanding, all of which is owned by S3.
(q) S3 has held all its shares of S4 common stock for more than one year, as
determined under section 1223.
(r) The Parent Group has not derived, and no taxpayer will derive, any federal
income tax benefit from the intercompany transaction that gave rise to DIG 1
or the redetermination of DIG 1 (including adjustment to basis in member
stock under Treas. Reg. § 1.1502-32). This determination is made without
regard to the basis consequences resulting from the T1 Reorganization.
(s) The Parent Group has not derived, and no taxpayer will derive, any federal
income tax benefit from the intercompany transaction that gave rise to DIG 2
or the redetermination of DIG 2 (including adjustment to basis in member
stock under Treas. Reg. § 1.1502-32). This determination is made without
regard to the basis consequences resulting from the T1 Reorganization and
the T2 Reorganization.
(t) There is no excess loss account on any share of OpCo, S1, T1, S3, S4, S5,
and T2.
Rulings
1) The context does not require treating OpCo stock as a successor asset to T1
stock within the meaning of Treas. Reg. § 1.1502-13(j)(1), and OpCo will take
DIG 1 into account following the T1 Reorganization.
2) DIG 1 is redetermined to be excluded from gross income under the
Commissioner’s Discretionary Rule of Treas. Reg. § 1.1502-13(c)(6)(ii)(D).
Accordingly, DIG 1 is excluded from the gross income of the Parent Group for the
group’s consolidated return year that includes the day of the T1 Reorganization.
3) The amount of DIG 1 that is redetermined to be excluded from gross income will
not be taken into account as earnings and profits of any member of the Parent
Group and will not be treated as tax-exempt income of any member of the Parent
Group under Treas. Reg. § 1.1502-32(b)(2)(ii).
4) The context does not require treating either OpCo stock, S3 stock, or S4 stock as
a successor asset to T2 stock within the meaning of Treas. Reg. § 1.1502-
13(j)(1), and S4 will take DIG 2 into account following the T2 Reorganization.
5) DIG 2 is redetermined to be excluded from gross income under the
Commissioner’s Discretionary Rule of Treas. Reg. § 1.1502-13(c)(6)(ii)(D).
PLR-103010-21 7
Accordingly, DIG 2 is excluded from the gross income of the Parent Group for the
group’s consolidated return year that includes the day of the T2 Reorganization.
6) The amount of DIG 2 that is redetermined to be excluded from gross income will
not be taken into account as earnings and profits of any member of the Parent
Group and will not be treated as tax-exempt income of any member of the Parent
Group under Treas. Reg. § 1.1502-32(b)(2)(ii).
Closing Agreement
We will, accordingly, approve a closing agreement with the taxpayer with respect to
certain of those issues affecting its tax liability on the basis set forth above. The
necessary closing agreement for Parent has been prepared in triplicate and is enclosed.
In pursuance of our practice with respect to such agreements, the agreement contains a
stipulation to the effect that any change or modification of applicable statutes enacted
subsequent to the date of this agreement and made applicable to the taxable period
involved will render the agreement ineffective to the extent that it is dependent upon
such statutes.
Caveats
Except as expressly provided herein, no opinion is expressed or implied concerning the
tax treatment of the proposed transaction under any provision 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 is not specifically covered by the above
rulings. Specifically, no opinion is expressed or implied with respect to Certain Tax
Matters.
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 of the letter ruling.
PLR-103010-21 8
In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to your authorized representative.
Sincerely,
__________________________
Robert H. Wellen
Associate Chief Counsel
Office of Associate Chief Counsel (Corporate)
cc:
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