Failing subchapter C requirements to avoid nonrecognition treatment.

Author:Foley, Ciara

If a transaction satisfies the substantive tests for certain subchapter C nonrecognition provisions (e.g., Secs. 332, 351, and 368), can the taxpayer nonetheless achieve a taxable exchange by intentionally violating procedural requirements? In other words, can procedural requirements be viewed as, in effect, offering an election to create gain or loss? As discussed below, the authorities generally indicate that the answer is "no" and that nonrecognition is mandatory. The issue has arisen in connection with such substantive or procedural requirements as the need to issue shares to meet a statutory requirement (sometimes called a "meaningless gesture" but required under, e.g., Sec. 367(c)(2)); the requirement for a gain recognition agreement (GRA); and the requirement for a Sec. 367(b) notice.

Information Filing Required for Nonrecognition

The regulations associated with tax-free contributions, liquidations, and reorganizations require taxpayers to file certain information with the IRS. For example, every significant transferor and transferee corporation in a Sec. 351 exchange must include a Regs. Sec. 1.351-3(a) statement on its income tax return for the tax year of the Sec. 351 exchange. In the context of nontaxable corporate liquidations meeting the requirements of Sec. 332, Regs. Sec. 1.332-6 requires a parent corporation receiving distributions in complete liquidation from its 80%-or-more liquidating subsidiary corporation to include a statement on its tax return for that year stating that the corporation received a liquidating distribution and to provide the fair market value and basis of the distributed property immediately before the liquidation.

With respect to the corporate distributor in a Sec. 332 liquidation, Regs. Sec. 1.6043-1 requires that a liquidating corporation file Form 966, Corporate Dissolution or Liquidation, setting forth the terms of the resolution or plan and other information required by the IRS. A liquidating corporation also must file Form 1096, Annual Summary and Transmittal of U.S. Information Returns. In the context of reorganizations, Regs. Sec. 1.368-3 requires a corporate participant in a tax-free reorganization to file a complete statement with its tax return for the year of reorganization setting out specific information including the date of the reorganization; the aggregate fair market value and basis of the assets, stock, or securities of the target corporation transferred in the transaction; and the...

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