Also, these transactions often do not involve inconsistent tax goals of the different parties, so that a tax-driven form is more likely. Consequently, it may be difficult to use pricing to indicate the value of any particular group of assets. For example, the shareholders of the target may want tax deferral, whereas the acquiring corporation may prefer a step-up in the basis of assets or stock.īy contrast, the other types of transactions generally involve allocations of relative value within the target among its owners and creditors, classes of shareholders, or both. In addition, an acquisition often involves tension between the parties' interests regarding tax consequences. Where the target and acquiring corporations are unrelated, the price agreed on is likely to be both (1) a reliable indication of the value of the target and (2) determined by reference to value outside the target-generally, cash or the stock of the acquiring corporation. The "substantially all" issue arises in four types of corporate transactions in addition to acquisitions: reincorporations, divisions, debt restructurings, and parent-subsidiary flips.Īcquisitions. The second part of this article will examine other problems that arise under current law. This first part of the article discusses why acquisitive reorganizations should be specially treated, suggests how an overall rule for "substantially all" in acquisitions might be structured, and considers how the 90/70 test might be clarified if new guidance is not adopted. It would be particularly useful if such guidance consisted of "two-edged" rules, i.e., to indicate when the "substantially all" requirement is and is not satisfied, rather than merely a safe harbor for reorganization treatment. New guidance, in the form of Regulations or Revenue Rulings, would be helpful. In view of these and other developments, the "substantially all" requirement as applied to acquisitions should be reconsidered. (3.) Section 368(a)(2)(G) provided that an acquisition qualifies as a C reorganization only if the target corporation is liquidated as part of the reorganization plan. 1.368-1(d) set forth a "continuity of business enterprise" requirement, applicable to corporate reorganizations generally. A corporation now recognizes its built-in gain (but often not loss) on nearly all property transfers and distributions other than reorganizations. (1.) Congress repealed the General Utilities doctrine. Three developments were particularly important: Recently, however, corporate tax law has shifted in basic ways that affect the purpose and role of the "substantially all" requirement. Until the 1980s, the 90/70 test seemed to protect the reorganization system from abuse without interfering unduly with most legitimate transactions. 77-37, 1977-2 CB 568, section 3.01, 6 "substantially all" is satisfied if the assets transferred represent at least 90% of the FMV of the net assets and at least 70% of the FMV of the gross assets held by the target immediately prior to the transfer. 5 Under the advance ruling guidelines in Rev. 4 Moreover, all the cases discussing this requirement in acquisitive reorganizations date from before 1960. Various court decisions discuss "substantially all," but none states a definitive test. Furthermore, this gain recognition does not provide a basis increase in any property or any other future tax benefit.
IRC 355 FULL
2 Here, in addition to the taxes paid by the target and its shareholders, the acquiring subsidiary recognizes gain and pays tax on the full value of its parent's stock used in the acquisition. The acquiring subsidiary could be viewed as receiving parent stock (with a zero basis) as a capital contribution or a Section 351 exchange and then transferring that stock to the target corporation for the target's assets in a taxable exchange. 1 In a triangular acquisition (whether a merger or a C reorganization), even a third tax could be involved. In addition, if the target's assets are transferred, it will be taxed on its gain, and thus two taxes will be paid. If this test is not met, the acquisition will be taxable to the target's shareholders. In the most common types of tax-free corporate acquisitions, the acquiring corporation must acquire "substantially all" the properties of the target corporation. Under current interpretations, a target may fail the test by distributing property to shareholders or paying transaction expenses before the acquisition. Dick, a participating associate in the Washington, D.C., office of Fulbright & Jaworski L.L.P., assisted in preparing this article. He lectures and writes frequently on Federal tax subjects, and has served as chair of the ABA Tax Section's Corporate Tax Committee. WELLEN is a partner in the Washington, D.C., law firm of Ivins, Phillips & Barker. New Guidance Is Needed for the 'Substantially All' Rule as Applied to Acquisitions
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