The step-transaction doctrine, QSPs, and tax-free reorgs.

• Author: Klahsen, Rick
• Position: Qualified stock purchase

Rev. Rul. 2008-25, issued in May 2008, further expands on existing rulings with respect to the application of the step-transaction doctrine within the context of qualified stock purchases and tax-free reorganizations. Though neither surprising nor unexpected, the ruling provides a succinct yet comprehensive analysis that sheds light on the combined application of the predecessor rulings.

Historical Interaction of Step Transaction, QSPs, and Sec. 368 Reorgs.

Prior to the enactment of Sec. 338, certain stock purchases followed by the liquidation of the target (T) were stepped together and treated as taxable asset sales followed by liquidation of the target under Kimbell-Diamond Milling Co., 14 T.C. 74 (1950), aff'd percuriam, 187 F.2d 718 (1951), cert. denied, 342 U.S. 827 (1951). This tax result likely represented an unfortunate surprise to many unsuspecting taxpayers.

Rev. Rul. 67-274 subsequently addressed application of the step-transaction doctrine in the context of a reorganization under Sec. 368. The ruling characterized an otherwise qualifying Sec. 368(a)(1)(B) reorganization, followed by a liquidation of the target, as a Sec. 368(a)(1)(C) reorganization. Unfortunately, the ruling was not required to address, and was therefore silent as to, the treatment of the transaction if stepping together the multiple steps had instead resulted in a failed Sec. 368(a) reorganization.

In 1982, Sec. 338 was enacted and provided guidelines for treating a qualified stock purchase (QSP) as an asset acquisition. The statute's legislative history supports the conclusion that enactment of Sec. 338 killed the Kimbell-Diamond doctrine, stating that "[t]he bill is also intended to replace any nonstatutory treatment of a stock purchase as an asset purchase under the Kimbell-Diamond doctrine" (H.R. Conf. Rep't No. 760, 97th Cong., 2d Sess. (1982)). Note the use of the term "stock purchase" rather than QSP in the legislative history.

Citing the legislative history of Sec. 338, the IRS held in Rev. Rul. 90-95 that the step-transaction doctrine would not apply to treat a QSP followed by an upstream merger as a taxable asset acquisition, even when the merger occurred under a plan in existence at the time of the acquisition. Rather, the ruling respects the QSP and the upstream merger (a qualifying Sec. 332 liquidation) as separate transactions.

Later, in Rev. Rul. 2001-46, the IRS addressed the ramifications of both (1) an upstream merger following an otherwise...