New consolidated investment adjustment rules may have significant effect on certain corporate acquisitions.

• Author: Yates, Dick

The long-awaited consolidated return investment adjustment regulations (Regs. Sec. 1.1502-32) were finalized last August and are effective for tax years beginning on or after Jan. 1, 1995. One of the negative adjustments to be made to a subsidiary's stock is for the subsidiary's loss carryovers (ordinary or capital) that expire during the year; see Regs. Sec. 1.1502-32(b)(3)(iii)(A). Although the new investment adjustment rules generally have retroactive effect for subsidiaries, the negative adjustment required for expiring losses will not apply to expiring separate return limitation year (SRLY) losses unless the subsidiary joins the consolidated group in a tax year beginning on or after Jan. 1, 1995 (Regs. Sec. 1.1502-32(h)(4)). Thus, this particular adjustment is prospective.

Regs. Sec. 1.1502-32(b)(4) introduces a new concept by which a loss carryover of a newly acquired subsidiary may be waived. If a subsidiary has an SRLY net operating loss (NOL) or capital loss carryover when it becomes a member of a consolidated group, the group may make an irrevocable election to treat all or a portion of the loss carryover as expiring immediately before the subsidiary joins the group. If the subsidiary was also a member of another consolidated group before joining the new group, this "deemed expiration" is considered as occurring immediately after the subsidiary leaves the previous group. The effect of the waiver of a loss carryover on the new subsidiary's stock basis depends on the type of acquisition. If the subsidiary was acquired in a single taxable transaction, there will be no effect. However, if the subsidiary is acquired in a tax-free transaction, its basis must be reduced (with certain limitations) immediately before it joins the acquiring group. Other rules apply when the loss relates to a lower-tier subsidiary of the acquired company.

The election to waive a loss carryover is irrevocable and must be filed with the...