Acquisition of holding company assets by less-than-80 percent-owned subsidiary should satisfy COBE requirement.

• Author: Madden, David
• Position: Continuity-of-business-enterprise rule

The tax law is not clear as to whether the acquisition of the assets of a holding company by its less-than-80%-owned subsidiary satisfies the continuity-of-business-enterprise (COBE) requirement, a necessary element to qualify the acquisition as a tax-free reorganization. A recent Tax Court case provides additional support to the implicit direction of the IRS that such an acquisition should satisfy the COBE requirement.

For a transaction to qualify as a tax-free reorganization under Sec. 368, an acquiring corporation must satisfy the COBE requirement; see Laure, 653 F2d 253 (6th Cir. 1981), and Regs. Sec. 1.368-1(b). The acquiring corporation must either continue the acquired corporation's historic business or use a significant portion of its historic business assets. The application of this requirement to certain transactions (e.g., the merger of holding companies) depends on all the facts and circumstances.

A holding company is a corporation that holds shares in other corporations for investment purposes. It includes a parent corporation with stock ownership in subsidiary corporations sufficient to control their operations and management; see Culcal Atylco, Inc. v. Vornado, Inc., 103 Cal. Rptr. 419 (Ct. App. 1972).

In applying the COBE requirement to the acquisition of a holding company, the Service has treated the activities of a holding company's wholly owned operating subsidiary as the holding company's historic business. In Rev. Rul. 85-197, the IRS ruled that an acquiring company satisfied the COBE requirement following a merger of a holding company into its wholly owned operating subsidiary, reasoning that the holding company's historic business was also the subsidiary's historic business. Similarly, in Rev. Rul. 85-198, the Service ruled that an acquiring company satisfied the COBE requirement following a merger of two bank holding companies, because the acquiring holding company continued to indirectly operate a significant historic business through its ownership of the acquired holding company's second-tier subsidiary. Neither of these rulings mentioned the holding company's ownership of subsidiary stock as a historic business or viewed the stock as a historic business asset. Also, neither mentioned whether a similar rule would apply in the case of an acquisition of a holding company into its less-than-wholly-owned operating subsidiary.

The IRS touched on the issues implicitly in Rev. Rul. 78-47, in which an acquisition of a...