Beware of "excess" liabilities in type A reorganizations.

• Author: Silvestri, Edith E.

A Type A reorganization, defined in Sec. 368(a)(1)(a) as a "statutory merger or consolidation," is the prototypical corporate reorganization. Tax advisers are familiar with subchapter C's operational rules that apply to a so-called "tax-free" Type A reorganization. Subchapter C applies to C corporations and, generally, to S corporations (under Sec. 1371(a)).

Under the general rule of Sec. 361(a), a corporation exchanging property, pursuant to a reorganization plan, solely for stock or securities recognizes neither gain nor loss. However, Sec. 361(b) requires recognition of gain (but not loss) if boot also is received in such an exchange and is retained by the recipient corporation rather than distributed to its shareholders.

The general rule of Sec. 357(a) provides that, except when the principal purpose is tax avoidance or there is no bona fide business purpose (Sec. 357(b)), the transferee corporation in a tax-free reorganization can assume a liability or acquire the transferor's property subject to a liability without precipitating taxation under Sec. 361(b). Without Sec. 357(a) (enacted to overrule the Supreme Court's Hendler decision, 303 US 564 (1938)), all liabilities transferred pursuant to"a tax-free reorganization would be considered equivalent to cash distributions and, therefore, treated as boot.

Type D reorganizations, defined in Sec. 368(a)(1)(D), involve transfers to controlled corporations that may be either divisive (spin-offs, split-offs or split-ups) or nondivisive. For example, a nondivisive Type D reorganization involves the transfer of substantially all of the assets of one corporation to another corporation controlled by the transferor and/or one or more of its shareholders. For transactions pursuant to reorganization plans adopted after July 18, 1984, the control threshold for this purpose is 50%, determined under Sec. 304(c) (Sec. 368(a)(2)(H)). Like the other types of corporate reorganizations, Type Ds are also subject to subchapter C's operational rules.

For Type D reorganizations, Sec. 357(c)(1)(B) provides another exception to the general rule of Sec. 357(a) by requiring recognition of gain to the extent that the liabilities assumed (or which the acquired...