Question

Manufacturing Corp. owns a five-acre parcel of land. Its factory takes up one acre of this land, and there is a mall on the other four acres. Manufacturing Corp. rents out retail space in the mall. To get rid of a troublemaker shareholder, Manufacturing Corp. wants to put all of the land into a subsidiary, sign a long-term lease for its own factory, and then split off this subsidiary by transferring it to the troublemaker shareholder in complete redemption of his stock. Discuss how this may or may not qualify as a divisive D reorganization followed by a sec. 355 distribution.

Answer 1

. D. Divisive Reorganizations

In many cases, the subsidiaries do not exist at the time the parent corporation wishes to separate its business. However, a divisive transaction can be done on a tax free basis using a corporate reorganization under Section 368(a)(s)(D), which allows the parent corporation to form a subsidiary to which the parent transfers part or all of its business as the first step in a plan to distribute the subsidiary's stock to shareholders.

For example: A Type D Reorganization in a "split off' would involve the transfer of part of the parent corporation's business to a controlled subsidiary corporation in exchange for its stock and securities followed by a distribution of that stock (and securities) to certain shareholders of the parent corporation. Handling the transaction as a D reorganization can accomplish any of the tax free divisions described in Paragraphs.. As in all types of tax free reorganizations, the judicial requirements of "business purpose", "continuity of business enterprise" and "continuity of interest" must also be met to satisfy the requirements of Section 355 whether or not accomplished through a D Reorganization.

A "split-off'

A "split-off' is a non pro-rata distribution of stock by the parent corporation of a subsidiary corporation to some of its shareholders in exchange for their stock in the parent. Example: A and B are two equal shareholders of the parent corporation. The business is divided and one part of the business is transferred to a newly formed subsidiary followed by the parent distributing the subsidiary stock to A in redemption for all of his stock in the parent corporation. A split-off resembles a redemption. If the split-off fails to qualify under Section 355, the parent corporation would be taxed under Section 311 on the fair market value (in excess of basis) of the subsidiary stock distributed in redemption of the shareholder's stock in the parent; and the shareholder receiving the subsidiary stock would be taxed under Section 302 on the redemption of his stock in the parent.

A "split-up"

A split-up is when the parent corporation divides the business and transfers it to two new subsidiary corporations which are then distributed non pro-rata to all of the shareholders in exchange for their stock in the parent corporation. A split-up resembles a complete liquidation of the parent corporation. After a split-up, the shareholders own stock interests (either pro-rata or non pro-rata) in the two new corporations and the distributing corporation ceases to exist. If the split-up fails to qualify under Section 355, the parent corporation would be taxed under Section 336 on the distribution of the subsidiaries as if it had sold the subsidiaries at fair market value, and the shareholders would be taxed under Section 331 on the receipt of the stock..