chapter 19

Continuity of Business Enterprise

The acquiring corporation must continue the target corporation's historic business or continue to use a significant portion of the target corporation's historic business assets.

T/F Assumption of a liability is generally not treated as boot.

True

Tax Consequences to the Shareholders in a Complete Liquidation

Depends on -Shareholder's identity -Ownership percentage in the corporation All non-corporate shareholders receiving liquidating distributions have a fully taxable transaction. Shareholders treat the property received as "full payment in exchange for the stock" transferred.

Computing The Tax Basis of Each Asset Received by the Corporation in a Section 351 Transaction

+ Tax basis of the asset contributed by the shareholder + Gain recognized by the shareholder on the transfer of the asset to the corporation = Tax basis of the asset received

Forward Triangular Type A Merger

-Acquiring corporation uses stock of its parent corporation to acquire the target corporation's stock, after which the target corporation merges into the acquiring corporation -For tax-deferred purpose, the transaction must meet the requirements to be a Type A merger *Acquiring corporation must use solely the stock of its parent corporation and acquire "substantially all" of the target corporation's property in the transaction Target corporation merges into an 80 percent or more owned acquisition subsidiary of the acquiring corporation *Target corporation merges into an 80 percent-or-more-owned acquisition subsidiary of the acquiring corporation. *Acquisition subsidiary must acquire "substantially all" of the target corporation's properties in the exchange.

Taxable Liquidating Distributions

-Liquidating corporation recognizes all gains and certain losses on taxable distributions of property to shareholders. -Liquidating corporation does not recognize loss if the property is: *Distributed to a related party *Distribution is non-pro rata *Asset distributed is disqualified property -Disqualified property is property acquired within five years of the date of distribution in a tax-deferred §351 transaction or as a nontaxable contribution to capital. -Loss on the complete liquidation of such property is not recognized if the property distributed was acquired in a §351 transaction or as a contribution to capital, and a principal purpose of the contribution was to recognize a loss by the liquidating corporation. -This rule prevents a built-in loss existing at the time of the distribution from being recognized by treating the basis of the property distributed as being its FMV at the time it was contributed to the corporation. -This provision is designed as an anti-stuffing provision to prevent shareholders from contributing property with built-in losses to a corporation shortly before a liquidation to offset gain property distributed in the liquidation.

Complete Liquidation of a Corporation

-Occurs when a corporation acquires all of its stock from all of its shareholders in exchange for all of its net assets, after which time the corporation ceases to do business -For tax purposes, Form 966 needs to be filed by corporation in order to inform IRS of its intention to liquidate its tax existence. -Form should be filed within 30 days after the owners resolve to liquidate the corporation.

Type A Asset Acquisitions

-One corporation acquires the assets and liabilities of another corporation in return for stock or a combination of stock and cash. -Acquisition is tax-deferred if the transaction satisfies the continuity of interest, continuity of business, and business purpose requirements. -Must meet state law requirements to be a merger or consolidation

Non-corporate Shareholder Capital Gain/Loss

A non-corporate shareholder computes capital gain or loss by subtracting the stock's tax basis from the money and FMV of property received in return. -Shareholder's tax basis in the property received equals the property's fair market value. -Debt assumed by the shareholder reduces the (net) FMV of property received. -FMV of the property cannot be less than the debt assumed by the shareholder (IRC § 336(b)).

Types of Corporate Acquisitions

ASSET PURCHASE FROM WCR Any Consideration (Taxable) Type A or Type C reorganization using SCR equity (Tax-Deffered Reorganization) STOCK PURCHASE FROM PAM Cash or Debt Generally (Taxable) Type B reorganization using SCR voting equity (Tax-Deffered Reorganization)

Business Purpose Test

Acquiring corporation must be able to show a significant non-tax avoidance purpose for engaging in the transaction.

Computing the Tax Basis of Stock in a Section 351 Transaction When Boot Is Received

Cash contributed + Tax basis of other property contributed + Gain recognized on the transfer − Fair market value of boot received − Liabilities assumed by the corporation on property contributed = Tax basis of stock received

Boot

Cash or other property added to an exchange to make the value of the traded goods equal. Receipt of boot triggers gain recognition. -Limit is the lesser of Fair Market Value of the boot or the gain realized. Boot is allocated based on the Fair Market Value of the properties transferred. The character of gain recognized depends on the nature of the asset transferred on which gain is recognized.

Taxable Acquisitions

Cash purchases of stock are common for public firms due to nontax advantages. -A stock acquisition for cash results in the acquired company retaining its tax and legal identity, albeit as a subsidiary of the acquiring company. -The acquiring company can liquidate acquired company into itself or merge it into an existing subsidiary to remove the subsidiary.

Judicial Principles

Continuity of Interest Continuity of Business Enterprise Business Purpose Test

Type D Acquisition

Corporation transfers all or part of its assets to another corporation, and immediately after the transfer, the shareholders of the transferor corporation own at least 50 percent of the voting power or value of the transferee corporation and own at least 80% of the transferee corporation.

T/F Corporate shareholders owning 80 percent or more of the stock of the liquidating corporation do not recognize gain or loss on the receipt of liquidating distributions.

True The tax basis in the property transferred carries over to the recipient, which allows a group of corporations under common control to reorganize their organizational structure without tax consequences.

Taxable and Tax-Deferred Corporate Acquisitions

When negotiating an acquisition, management of the acquiring corporation must decide whether to acquire assets or stock and what to use as consideration.

Buyer can purchase either stock or assets in a transaction that is either taxable or tax-deferred to the seller.

-A taxable asset acquisition allows the acquiring corporation to step up the tax basis of the assets acquired to fair value. -In stock acquisitions and tax-deferred asset acquisitions, the tax basis of the assets remains at the carryover value (generally, cost less accumulated depreciation).

Type B Stock-for-Stock Reorganizations

-Acquiring corporation must exchange solely voting stock for stock of the target corporation. -Acquiring corporation must control the target corporation after the transaction. -Acquiring corporation takes a carryover tax basis in the target corporation stock received in the exchange. -For tax-deferred purpose, the target shareholders must receive solely voting stock of the acquiring corporation.

Type C Acquisition

-Acquiring corporation uses its voting stock to acquire "substantially all" of the target corporation's assets. -End result of a Type C reorganization resembles a Type A reorganization. -Major difference between Type C and Type A is that state law governs the form of the Type A merger, while the IRC governs the form of the Type C reorganization.

Reverse Triangular Type A Merger

-Acquiring corporation uses stock of its parent corporation to acquire the target corporation's stock, after which the acquiring corporation merges into the target corporation. -For tax-deferred purpose, the transaction must satisfy three requirements. *Surviving corporation must hold "substantially all" of the properties of both the surviving and the merged corporations. *Target shareholders must transfer in exchange an amount of stock in the target that constitutes control of the target (80% or more of the target's stock). *Target shareholders must receive parent corporation voting stock in return.

Nontaxable Liquidating Distributions

-The liquidating corporation does not recognize gain or loss on distributions of property to an 80 percent corporate shareholder. -Liquidation-related expenses, including the cost of preparing and effectuating a plan of complete liquidation, are deductible by the liquidating corporation on its final Form 1120. -Deferred or capitalized expenditures such as organizational expenditures also are deductible on the final tax return.

Contributions to Capital

-Transfer of property but no stock or other property is received in return. -Corporation takes a carryover tax basis in property contributed by a shareholder. -Corporation takes a zero tax basis in property contributed by a non-shareholder. -Shareholder making a capital contribution increases the tax basis in existing stock by the tax basis of the property contributed.

Cash mergers

Cash mergers are generally carried out through an acquisition (merger) subsidiary. -An acquisition subsidiary isolates the liabilities of T in a separate corporation apart from the parent company. -The transfer of cash to the target shareholders is taxable to the shareholders.

Continuity of Interest

Shareholders of the acquired corporation retain a continuing ownership interest in the target.

§351

Tax Deferral Requirements: -Transfer of property to the corporation (not only services) in exchange for stock *Receipt of boot triggers gain *Boot is non-qualifying property received by the shareholder -Transferor(s) of property must be in control of the corporation immediately after the transfer. *Control is defined as ownership of 80 percent or more of the corporation's voting stock and each class of nonvoting stock.

Tax-Deferred Acquisitions

Taxpayers can reorganize a corporation in a tax-deferred manner under §351 For tax purposes, reorganizations include: -Acquisitions and dispositions of corporate assets (including subsidiaries' stock) -Corporation's restructuring of its capital structure