IRS issues 'no-rule' orders on several sec. 355 transactions.

• Author: Chapman, Amy

The IRS recently put an abrupt halt to its ruling practice with respect to several transactions in the Sec. 355 area for which rulings had previously become routine. Rev. Proc. 2013-3 (the annual "no-rule" revenue procedure) declares those transactions "under study." This item discusses three transactions covered by the no-rule revenue procedure.

For a stock distribution to qualify under Sec. 355, the distributing corporation (Distributing) must have ownership of stock possessing at least 80% of the total combined voting power of all classes of stock entitled to vote and at least 80% of the total number of shares of all other classes of stock (Control) of the corporation whose stock is being distributed (Controlled) (Secs. 355(a)(1)(D) and 368(c)).

Recapitalization Into Control

The first no-rule area prohibits ruling on whether a corporation is a controlled corporation within the meaning of Sec. 355 if the corporation underwent a recapitalization into high-vote/low-vote stock in anticipation of the distribution.

In 1969, the IRS issued Rev. Rul. 69-407, in which, in anticipation of a distribution of the stock of Controlled that was intended to qualify under Sec. 355, Controlled recapitalized its common stock (its only class of stock outstanding) into high-vote/low-vote shares. The recapitalization did not change the proportionate interests that the Controlled shareholders held in Controlled, but it altered their proportionate voting rights. As a result of the recapitalization, Distributing, which previously held 70% of the stock of Controlled, held 80% of the total combined voting power of the common stock of Controlled (i.e., a sufficient amount to have Control). The IRS respected the recapitalization-into-Control transaction, noting that the recapitalization resulted in a permanent realignment of voting control.

Since it issued Rev. Rul. 69-407, the IRS's position on recapitalizations into Control has evolved and become increasingly permissive, with more recent letter rulings allowing recapitalizations into Control even when a potential unwinding of the high-vote/low-vote structure was contemplated (as long as it was not compelled) (see, e.g., Letter Rulings 201123030, 201116001, and 201007050).

However, Rev. Proc. 2013-3 announced that the IRS will no longer issue letter rulings or determination letters on:

[w]hether a corporation is a "controlled corporation" within the meaning of S355(a)(1)(A) if, in anticipation of a distribution of...