TAM 9452002: redefining "control." (Technical Advice Memorandum)

• Author: Bloom, Gilbert D.

In Letter Ruling (TAM) 9452002, the IRS has in one document summarized the entire body of law on voting stock and the affiliation requirement for consolidated return purposes. Anyone remotely familiar with the topic knows that voting stock is the right to elect directors and that the test is mechanical. Now the Service has retreated from a purely mechanical application of the test in situations in which restrictions on the ability of directors to carry out all of their management functions dilute the effectiveness of the directors' votes and also dilute the shareholder vote. This ruling has implications beyond Sec. 1504 and the ability to file consolidated returns; the TAM's message also extends to Sec. 351 transfers, liquidations under Sec. 332, "B" and "D" reorganizations, Sec. 269, and any other situation in which it is necessary to determine control of a corporation through ownership of voting stock.

In TAM 9452002, corporation W had two classes of stock outstanding (Class A and Class B), each entitled to elect five directors. Corporation V owned all the Class A stock, and thus had 50% of the voting stock of W. Because V was incurring substantial losses, while W was extremely profitable, a restructuring was devised to permit V to offset future losses against the anticipated profits of W by having V and W file a consolidated tax return. To that end, the stock of W was recapitalized, substituting a new class of stock (Class C) for V's Class A stock, and altering the voting rights. Following the restructuring, V's new Class C stock could elect four directors (each having two votes) and the other shareholders owning Class B stock could elect two directors (each with one vote). There were two nonvoting directors.

Had the restructuring ended there, consolidation between V and W would have been established, because V would have owned stock entitling it to vote for directors who would have 80% of the voting power of the corporation. Under existing precedents (see, e.g., Rev. Rul. 69-126), satisfaction of the mechanical 80% test was all that was required. (The situation addressed in the TAM arose prior to 1984, so the additional requirement of an 80% "value" test in Sec. 1504(a)(2)(B), added by the Deficit Reduction Act of 1984, was not an issue. Based on the ensuing discussion, it is unlikely that this additional test, had it applied, would have been met.)

The restructuring in the TAM did not, however, stop at a mere reassignment of voting...