Tax-free spin-off of a business subsidiary to public shareholders under section 355

Plain-English summary

A publicly traded parent company (Distributing) that runs three lines of business wanted to separate one of them (Business B, held through a wholly owned subsidiary called Controlled) into a standalone public company. It planned a "spin-off": Controlled would first push cash up to the parent (funded by cash, intercompany receivables, and new third-party borrowing), the parent would swap its old Controlled shares for a fresh number of new Controlled shares, and then the parent would hand out the Controlled stock to its own public shareholders pro rata. The company asked the IRS to confirm the deal's tax consequences. The IRS ruled that the distribution of Controlled stock qualifies as a tax-free spin-off under section 355, so neither the parent nor its shareholders recognize gain or loss on the stock distribution, and it addressed the mechanics: the upstream cash payments are section 301 distributions, shareholders split their old basis between the two stocks by relative value, holding periods tack, and earnings and profits get allocated between the two companies. This matters because section 355 is the main way a large corporation can break itself into pieces without triggering a corporate-level or shareholder-level tax bill. The IRS expressly did not rule on the business-purpose, device, or section 355(e) "50-percent acquisition" questions, which are the usual audit flashpoints.

Ruling snapshot

• Question: Do the proposed steps to separate a business subsidiary and distribute its stock to public shareholders qualify for tax-free treatment under section 355 (and related consolidated-return, basis, and reorganization rules)?
• Outcome: Approved (ten favorable rulings, with the business-purpose/device/355(e) issues expressly not decided)
• Key authorities: IRC §§ 301, 355(a), 355(c), 358, 312(h), 1223(1), 1502, 1504; Treas. Reg. §§ 1.301-1(j), 1.1502-13(f)(2), 1.1502-19(a)(2) & (d), 1.358-2(a)(2), 1.312-10(b), 1.1502-33(e)(3); Rev. Proc. 2017-52

Full text (IRS public release)

Internal Revenue Service                         Department of the Treasury
                                                 Washington, DC 20224

Number: 202305010                        Third Party Communication: None
Release Date: 2/3/2023                   Date of Communication: Not Applicable
Index Number: 301.00-00, 355.00-00,
              355.01-00, 368.09-00,      Person To Contact:
              1502.13-00, 1502.19-00       ----------------------------,
                                           ID No. -----------------
-------------------------------------------    Telephone Number:
---------------------------------------------------    ---------------------
----------------------------             Refer Reply To:
-----------------------------              CC:CORP:2
                                           PLR-115153-22
                                         Date:
                                           November 7, 2022


                                Legend

Distributing        = ------------------------------------------------------
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Controlled          = ------------------------------------------------------
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Business A          = ------------------------------------------------------
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Business B          = ------------------------------------------------------
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Business C          = ------------------------------------------------------
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Continuing          = -      ---------------------------------------------------
Agreements                   ---------------------------------------------------
                             ---------------------------------------------------
                             [additional redacted lines]

 a                  = --


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

This letter responds to your authorized representatives' letter dated August 9, 2022, as
supplemented by subsequent information and documentation, requesting rulings on
certain federal tax consequences of a series of transactions (the "Proposed
Transaction," as defined below). The material information submitted in that letter and
subsequent correspondence is summarized below.

This letter is issued pursuant to Rev. Proc. 2017-52, 2017-41 I.R.B. 283, regarding one
or more "Covered Transactions" under section 355 of the Internal Revenue Code (the
"Code"); section 6.03(2) of Rev. Proc. 2022-1, 2022-1 I.R.B. 1, regarding one or more
significant issues under section 368 of the Code; and Rev. Proc. 2022-10, 2022-6 I.R.B.

473. This Office expresses no opinion as to any issue not specifically addressed by the
rulings below.

The rulings contained in this letter are based upon facts and representations submitted
by the taxpayer and accompanied by a penalties of perjury statement executed by an
appropriate party. This Office has not verified any of the material 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 Office has made no determination regarding whether the Distribution (defined
below): (i) satisfies the business purpose requirement of Treas. Reg. § 1.355-2(b); (ii) is
used principally as a device for the distribution of the earnings and profits of the
distributing corporation or the controlled corporation or both (see section 355(a)(1)(B)
and Treas. Reg. § 1.355-2(d)); or (iii) is part of a plan (or series of related transactions)
pursuant to which one or more persons will acquire directly or indirectly stock
representing a 50-percent or greater interest in the distributing corporation or the
controlled corporation, or any predecessor or successor of the distributing corporation
or the controlled corporation, within the meaning of Treas. Reg. § 1.355-8 (see section
355(e)(2)(A)(ii) and Treas. Reg. § 1.355-7).

                                 Facts

Distributing is a publicly traded domestic corporation and the parent of an affiliated
group of corporations that file a consolidated return for U.S. federal income tax
purposes. Distributing is directly and indirectly engaged in the conduct of Business A,
Business B, and Business C.

Among other entities, Distributing owns all the outstanding stock of Controlled, a
domestic corporation. Controlled has one class of common stock outstanding and is
directly and indirectly engaged in the conduct of Business B. Because Distributing
acquired (or was deemed to acquire) Controlled shares at various times, its basis in its
Controlled shares is not uniform.

For purposes of satisfying the active trade or business requirements of section
355(b) with respect to the Distribution (defined below), Distributing and the members of
its "separate affiliated group" as defined in section 355(b)(3)(B) will rely on Business A
and Controlled will rely on Business B. Distributing has submitted financial information
in accordance with Rev. Proc. 2017-52 indicating that each of Business A and Business
B has had gross receipts and operating expenses representing the active conduct of a
trade or business for each of the past five years.

                            Proposed Transaction

For what are represented to be valid business reasons (the "Corporate Business
Purposes"), Distributing proposes to engage in the following steps (collectively, the
"Proposed Transaction") to separate Business B:

   (i)     In order to achieve desired leverage and establish appropriate capital
           structures, Controlled will make one or more distributions (consisting of cash,
           intercompany receivables, and/or proceeds of third-party borrowing) to
           Distributing (the "Controlled Cash Distributions");

   (ii)    To give Controlled a number of shares appropriate for a standalone public
           company, Distributing will exchange solely its existing shares of Controlled
           stock for new shares of Controlled stock (the "Exchange"); and

   (iii)   Distributing will distribute the stock of Controlled to its public shareholders on
           a pro rata basis (the "Distribution").

The fair market value of the property distributed pursuant to the Controlled Cash
Distributions will not exceed Distributing's aggregate basis in its Controlled stock.

In connection with the Proposed Transaction, Distributing and Controlled will enter into
certain Continuing Agreements.

After the Proposed Transaction, Distributing and Controlled will have separate boards of
directors, except for a overlapping board members. However, the overlapping directors
will constitute a minority of each board and serve a corporate business purpose. The
overlap of directors is not inconsistent with the Corporate Business Purposes of the
Distribution.

                               Representations

With respect to the Distribution, except as otherwise set forth below, Distributing has
made all the representations in section 3 of the Appendix to Rev. Proc. 2017-52.

Distributing has made the following alternative representations:

       Representations 3(a), 8(b), 11(a), 15(b), 22(a), 31(a), and 41(a).

Distributing has not made the following representations, which do not apply to the
Distribution:

       Representations 7, 17, 18, 19, 20, 24, 25, and 40.

Distributing has made the following modified representations:

      Representation 32: Other than intercompany loans or obligations that have
      arisen, or will arise, between Distributing and Controlled in the ordinary course of
      business or as a result of the Continuing Agreements described herein, no
      intercorporate debt will exist between Distributing and Controlled at the time of,
      or subsequent to, the Distribution.

      Representation 33: Except for certain payments made pursuant to the Continuing
      Agreements, payments made in connection with all continuing transactions, if
      any, between Distributing and Controlled after the Distribution will be for fair
      market value based on arm's-length terms.

Distributing has also made the following representations:

      The Exchange will constitute a recapitalization which qualifies as a
      reorganization within the meaning of section 368(a)(1)(E).

                                    Rulings

Based solely on the information submitted and the representations set forth above, we
rule as follows:

    1. The Controlled Cash Distributions will be treated as a distribution of property by
      Controlled to Distributing to which section 301 applies. Treas. Reg. § 1.301-1(j).

    2. The Exchange and Distribution will each be treated as a separate transaction,
      because the only assets transferred in the Exchange are shares of Controlled
      stock.

    3. As the Controlled Cash Distributions will be treated as a distribution to which
      section 301 applies, Treas. Reg. § 1.1502-13(f)(2) will apply to the Controlled
      Cash Distributions.

    4. To the extent that the Controlled Cash Distributions create an excess loss
      account ("ELA") within the meaning of Treas. Reg. § 1.1502-19(a)(2) in certain
      shares of Controlled stock, Distributing's basis in its shares of Controlled stock at
      the time of the Exchange will be determined under Treas. Reg. § 1.1502-19(d) by
      allocating basis first to equalize and eliminate any ELA with respect to any share
      of Controlled stock.

    5. No gain or loss will be recognized by (and no amount will be included in the
      income of) Distributing shareholders upon receipt of the Controlled stock in the
      Distribution. Section 355(a).

    6. No gain or loss will be recognized by Distributing in the Distribution. Section
      355(c)(1).

    7. The aggregate basis of the Distributing stock and the Controlled stock in the
      hands of each Distributing shareholder immediately after the Distribution will
      equal the aggregate basis of the Distributing stock held by such shareholder
      immediately before the Distribution, allocated between the stock of Distributing
      and Controlled in proportion to the fair market value of each in accordance with
      Treas. Reg. § 1.358-2(a)(2). Section 358(a)(1), (b), and (c).

    8. The holding period of the Controlled stock received by Distributing shareholders
      in the Distribution will include the holding period of the Distributing stock held by
      such shareholders with respect to which the Distribution will be made, provided
      that such Distributing stock is held as a capital asset on the date of the
      Distribution. Section 1223(1).

    9. Earnings and profits of Distributing, if any, will be allocated between Distributing
      and Controlled in accordance with section 312(h), Treas. Reg. § 1.312-10(b), and
      Treas. Reg. § 1.1502-33(e)(3).

    10. Immediately following the Distribution, Controlled will not be a successor of
       Distributing for purposes of section 1504(a)(3). Therefore, immediately after the
       Distribution, Controlled and its direct and indirect subsidiaries that are "includible
       corporations" under section 1504(b) and satisfy the ownership requirements of
       section 1504(a)(2) will be members of an affiliated group of corporations eligible
       to file a consolidated U.S. federal income tax return with Controlled as the
       common parent.

                                     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. In particular, no opinion is expressed on whether the Exchange qualifies as a
reorganization within the meaning of section 368(a)(1)(E).

                             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.

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,



                                    ________________________
                                    Douglas C. Bates
                                    Branch Chief, Branch 4
                                    Office of Associate Chief Counsel (Corporate)


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