Valuation of assets transferred to entity in determining gain.

• Author: Calianno, Joseph M.
• Position: Taxation

The Ninth Circuit, affirming the Tax Court, held earlier this year that when a corporation transferred appreciated property to a limited partnership and then distributed the partnership interests to its shareholders, the corporation's recognized gain under Sec. 311 is measured by valuing the underlying assets (rather than the partnership interests) on the date of the distribution (Pope & Talbot, Inc., 162 F3d 1236 (9th Cir. 1999)). This case may have implications for other types of in-kind distributions and may prove to be a trap for the unwary.

Background

In 1985, Pope & Talbot, Inc. (P&T), a public company, transferred appreciated real estate and certain new and existing liabilities to a newly formed limited partnership. Immediately after the transfer and under an overall plan, the managing general partner of the partnership, who was a controlling shareholder of P&T, issued the limited partnership units pro rata to the P&T shareholders. The units thereafter were traded publicly.

Although P&T and the IRS agreed that the transaction was a taxable distribution of property under Sec. 311, they disagreed as to the methodology for calculating the gain. Sec. 311 provides for gain recognition to a corporation that distributes appreciated property (other than an obligation of the distributing corporation) determined "as if such property were sold to the distributee at its fair market value." (Although the statute has been modified somewhat since 1985, this language has not changed.) P&T calculated its gain by using the aggregate value of the limited partnership units received by its shareholders. The Service's position was that the gain recognized by P&T under Sec. 311 should be based on the value of the underlying assets transferred by P&T to the partnership.

Court Decisions

The Tax Court held for the IRS, and a divided Ninth Circuit affirmed. The majority opinion cited the "plain meaning" of Sec. 311, as well as the legislative history leading to repeal of the General Utilities doctrine. The Ninth Circuit rejected P&T's assertion that "symmetry" required Sec. 311 to be read consistently with Secs. 301 and 302, which measure gain to shareholder recipients of distributions based on the value of the property received.

In addition, the majority rejected P&T's argument that the market price of publicly traded securities equaled the value of the underlying assets held by an entity. The majority determined that a court should choose a valuation method...