Sec. 338(h) (10) - caveat target!

• Author: Liquerman, Robert

Sec. 338(h)(10) provides an election to treat a qualified stock purchase as an asset sale. If this election is jointly made by the seller (SR) and the purchaser (P) of the target corporation (T) stock, T is generally deemed to sell all of its assets and distribute the proceeds in complete liquidation (Regs. Sec. 1.338(h)(10)-1(a)). (Because T will actually continue in existence, it will be referred to as New T after the transaction and as Old T before the transaction.) Regs. Sec. 1.338(h)(10)-1(e)(5) provides that New T remains liable for the tax liabilities of Old T, including any tax liability resulting from the deemed asset sale. The regulation does not, however, indicate which party should actually satisfy the tax liability resulting from the deemed asset sale.

Regs. Sec. 1.338(h)(10)-1 permits an election in three situations: (1) T is a member of a selling consolidated group, (2) T is a member of a selling affiliated group filing separate returns or (3) T is an S corporation. In the absence of a tax allocation agreement between SR and P, the liability and ultimate responsibility among the parties for satisfying the tax resulting from the deemed asset sale may depend on the situation in which the election occurs.

T is a member of a selling

consolidated group

Regs. Sec. 1.338(h)(10)-1(c)(3) and (e)(1) provide that the deemed asset sale occurs while T was a member of the selling consolidated group. Thus, the selling consolidated group is liable for the tax incurred in the deemed asset sale. in addition, New T remains liable for the tax incurred in the deemed asset sale and the tax liabilities of the consolidated group members attributable to tax years in which Old T and those members joined in a consolidated return (Regs. Secs. 1.338(h)(10)-1(e)(5) and 1.1502-6(a)).

The common parent of the consolidated group is generally treated as the group's agent for Federal income tax matters (Regs. Sec. 1.1502-77(a)). Therefore, the Service will typically expect the common parent to satisfy the group's tax liabilities. Whether the common parent has a cause of action against T for reimbursement of such taxes should apparently be determined under the consolidated group's tax sharing agreement (or under state law, in the absence of such an agreement). A tax sharing agreement cannot, however, reduce the tax liability of any consolidated group member with respect to the IRS (Regs. Sec. 1.1502-6(c)).

If the deemed asset sale results in a deficiency...