IRS issues guidance on corporate equity reduction transactions.

• Author: Peabody, Brian

On Sept. 17, 2012, the IRS published a significant proposed regulation package (REG-140668-07) providing the first published guidance addressing corporate equity reduction transactions (CERTs) since the CERT rules were enacted in 1989. The proposed regulations include rules generally applicable to all corporate taxpayers, as well as special rules for consolidated groups, that will become effective when finalized.

Background

Sec. 172(b)(1)(E) states that in the event of a CERT, if an "applicable corporation" has a corporate equity reduction interest loss (CERIL) for any loss limitation year, that loss cannot be carried back to a tax year preceding the year of the CERT. A CERT is a major stock acquisition (MSA) or an excess distribution (ED), as described below. A CERIL is defined as the excess of the net operating loss (NOL) for the year over the NOL for the year determined without any allocable interest deductions otherwise taken into account in computing the NOL.

Taxable income is computed by taking allocable interest deductions into account after all other deductions. The "allocable interest deductions" are those deductions allowed for interest on the portion of any indebtedness allocable to a CERT under the principles of Sec. 263A. The amount is limited to the excess of (1) the amount allowable as a deduction for interest during the loss limitation year over (2) the average of those amounts for the three tax years preceding the CERT year.

An "applicable corporation" is a C corporation that (1) is the acquiring or acquired corporation in an MSA; (2) makes a distribution with respect to its stock (or redeems its stock) in connection with an ED; or (3) is a successor corporation of a corporation described in (1) or (2).

An MSA is defined as an acquisition by a corporation under a plan of the corporation (or any group of persons acting in concert with the corporation) of stock in another corporation representing 50% or more, by vote or value, of the acquired corporation's stock. An ED is the excess of (1) the aggregate distributions (including redemptions) made during a tax year by a corporation with respect to its stock over (2) the greater of (a) 150% of the average of those distributions for the three tax years immediately preceding the tax year or (b) 10% of the fair market value (FMV) of the stock of the corporation as of the beginning of the tax year. For this purpose, there is a reduction for certain stock issuances; in addition...