Corporate Taxation Chapter Twelve: Corporate Attributes

Transcription

1 Presentation: Corporate Taxation Chapter Twelve: Corporate Attributes Professors Wells April 15, 2015

2 Chapter Twelve p.552 Basic Overview Fundamental provisions are as follows: 1) 381 target corporation s tax attributes follow its assets in a taxfree reorganization (other than B and E reorganizations) and taxfree liquidations of subsidiaries. 2) 382 & 383 restrict the carryforward of NOLs and other other losses and credits following a change of ownership. 3) 269 allows IRS authority to disallow deductions, credits, or other allowances where target corporation stock or assets are acquired with a principle purpose of obtaining tax attributes. 2

3 Section 381 Carryover Rules p.553 General Rule of 381(a): tax attributes of target carryover to acquierer in asset reorganizations and tax-free liquidations. Exception in 381(c)(2): hovering deficit rule. Target s acquired E&P deficit cannot be used to offset pre-acquisition positive E&P of Acquiring. 1. Target deficit can only offset post-acquisition Accumulated E&P. 2. Note that post-acquisition current E&P is not offset by Accumulated E&P and would have nimble dividend. Shareholder 100x Loss Co A Reorg. Profit Co E&P Deficit= <$100x> Pre-Acq. E&P = $100x 3

4 Section 381 Carryover Rules for NOLs p (c)(1) provides that Loss Target s NOLs generally carryover to the Acquiring Corporation. Exception #1: 381(b)(3) provides that the Acquiring Corporation cannot carryback Target Corporation s NOLs to the Acquiring Corporation s pre-acquisition years to get a refund of pre-acquisition tax amounts. Exception #2: 382 provides that the usage of NOLs are limited after an ownership change. 4

5 Problem 1(a) p.555 FACTS: P acquires Target assets in a C reorganization in P has Acc. E&P of $30,000 and Current E&P of $20,000. T has an E&P Deficit of $50,000. P distributes $20,000 cash to its shareholders in P Shares T S/Hs Liquidation T stock Target P Shares Exchange Target Assets E&P Deficit=($50,000) RESULT: 1. Dividend out of current E&P of $20,000 (nimble dividend). P S/Hs 2010: $20, In 2011, hovering deficit is still $50,000. This hovering deficit can only wipe out subsequent additions to accumulated E&P. P T Assets Pre-Acq. Acc. E&P= 30,000 Current E&P=20,000 5

6 Problem 1(b) p.555 FACTS: Same facts as (a) except P breaks even in 2010 and P distributes $20,000 in RESULT: Dividend of $20,000 out of P s Acc. E&P. Hovering T deficit is not allowed to offset preacquisition accumulated E&P of P by reason of 381(c)(2). P Shares T S/Hs Liquidation T stock Target P Shares Exchange Target Assets E&P Deficit=($50,000) P S/Hs 2011: $20,000 P T Assets Pre-Acq. Acc. E&P= 30, E&P= E&P=0 6

7 Problem 1(c) p.555 FACTS: Same facts (b) except P has current E&P deficit in 2010 of $10,000 and and breaks-even in P distributes $20,000 in RESULT: Dividend of $20,000 out of P s Acc. E&P. P s 2010 current E&P deficit reduces its accumulated E&P to $20,000 but the inherited T hovering E&P deficit is not allowed to offset pre-acquisition accumulated E&P of P by reason of 381(c)(2). P Shares T S/Hs Liquidation T stock Target P Shares Exchange Target Assets E&P Deficit=($50,000) P S/Hs 2011: $20,000 P T Assets Pre-Acq. Acc. E&P= 30, E&P Deficit=<10,000> 2011 Acc. E&P 20, E&P=0 7

8 Problem 1(d) p.555 FACTS: Same facts (b) [so, P has $10,000 of remaining pre-acquisition Acc. E&P after 2011 distribution of $20,000] except P has a $10,000 current E&P deficit in 2012 and makes a $20,000 distribution in What is the result of the 2012 distribution? RESULT: The inherited T hovering E&P deficit is not allowed to offset pre-acquisition accumulated E&P of P Shares T S/Hs Liquidation T stock Target P Shares Exchange Target Assets E&P Deficit=($50,000) P S/Hs 2011: $20, : $20,000 P T Assets Pre-Acq. Acc. E&P= 30, E&P Deficit= E&P= Acc. E&P=10, E&P=<$10,000> P by reason of 381(c)(2). P has a $10,000 pre-acquisition accumulated E&P at the beginning of 2012 and a 2012 current year E&P deficit of $10,000. The current year E&P deficit is prorated per Rev. Rul Since last day of year, all $10,000 of 2012 current E&P reduces Acc. E&P to zero. 8

9 Problem 1(e) p.555 FACTS: Same facts as in (d) except P has a $20,000 current E&P in 2013 and makes another $20,000 distribution in What is the result of the 2013 distribution? RESULT: P has a $20,000 current E&P in 2013 and thus has a nimble dividend in 2013 by reason of 316(a)(2). P Shares T S/Hs Liquidation T stock Target P Shares Exchange Target Assets E&P Deficit=($50,000) P S/Hs 2011: $20, : $20, : $20,000 P T Assets Pre-Acq. Acc. E&P= 30, E&P= E&P= E&P=<10,000> 2012 Acc. E&P = E&P=20,000 9

10 Problem 1(f) p.555 FACTS: Same facts as in (e) [P distributes $20,000 in 2011 & 2012 but no distribution in 2013] and breaks-even in P distributes $40,000 in What result for the 2014 distribution? T S/Hs P Shares Liquidation T stock Target P Shares Exchange P S/Hs 2011: $20, : $20, : : $40,000 P Target Assets RESULT: P finally is going to be able to use some of the inherited T hovering E&P deficit. The 2013 post-acquisition E&P of $20,000 is offset by $20,000 of the T hovering E&P deficit. So, in 2014, there remains $30,000 of inherited T hovering deficit. In 2014, P has no remaining accumulated E&P and no 2014 current E&P, so the $40,000 distribution is not a dividend. It would be return of capital to the extent of basis per 301(c) (2) and thereafter creates capital gain by reason of 301(c)(3). T Assets E&P Deficit=($50,000) Pre-Acq. Acc. E&P= 30, E&P= E&P=<10,000> 2013 Acc. E&P= E&P=20, E&P=0 10

11 Problem 2(a) p.555 FACTS: T merges into P on August 31 (2/3 rd of year). P has <$30,000> current E&P deficit and T has Acc. E&P=$30,000. P distributes $20,000 next year and breaks-even next year. T Pre-Acq. E&P = $30x 2/3 rd of Year A Reorg. Shareholder P Next Year: 20x Cur. E&P Deficit <$30x> RESULT: P has $20,000 of its $30,000 of current E&P deficit that occurs pre-acquisition. This $20,000 portion of the pre-acquisition E&P deficit of P cannot be used to reduce T s pre-acquisition E&P, but the $10,000 current E&P deficit can be used per 381(c)(2)(B). As of the beginning of next year, P has Acc. E&P of $20,000 ($30,000 - $10,000 post-acquisition deficit) and P has a hovering deficit of $20,000. The P distribution is a dividend in full. 11

12 Problem 2(b) p.556 FACTS: Same as (a) except P has $30,000 current earnings and profits for the year and T has a $30,000 E&P deficit at the time of the acquisition. P distributes $20,000 next year and breaks-even next year. T 2/3 rd of Year A Reorg. Pre-Acq. E&P Deficit = <$30x> Shareholder P Next Year: 20x Current E&P E&P = $30x RESULT: Same result under 381(c)(2)(B). The direction of the merger parties (between loss co and profit co) does not change the result. 12

13 Problem 2(c) p.556 FACTS: Same as (b) except P distributes $30,000 on the last day of the year of the acquisition. T 2/3 rd of Year A Reorg. Pre-Acq. E&P Deficit = <$30x> Shareholder Same Year: 30x P Current E&P E&P = $30x RESULT: The full $30,000 would be a dividend. T has a prereorganization deficit which is subject to limitation by reason of 381(c) (2)(B). However, P has $30,000 of current E&P and that alone is sufficient to fund the dividend per 316(a)(2). As a result, P has a $30,000 hovering deficit that remains available at the beginning of the next year. 13

14 Problem 3(a) p.556 FACTS: T merges into P on Dec. 31, 2010 in an A reorganization. T shareholders receive 51% of the outstanding P stock. P & T had been in existence for two years with T sustaining a $20,000 loss in 2009 and 2008 and P earning a profit of $30,000 in 2009 and T S/Hs T 51% P Shares 12/31/2010 A Reorg. Pre-Acq. E&P 2009: <$20x> 2010: <$20x> P Pre-Acq. E&P 2009: $30x 2010: $30x Question: Can P carryback T s losses against P s profits for 2008 and 2009? Answer: No. T may carry back the losses to its own corporate structure under 172. Section 381(c)(1)(A) allows only a carryover to P. 14

15 Problem 3(b) p.556 FACTS: Determine combined net income for 2011 assuming loss pattern continues. Answer: $10,000 per year from 2011 through T s pre-acquisition NOL can be used to offset the taxable income on carryforward basis. T S/Hs T 51% P Shares 12/31/2010 A Reorg. Pre-Acq. E&P 2009: <$20x> 2010: <$20x> P Pre-Acq. E&P 2009: $30x 2010: $30x 15

16 Problem 3(c) p.556 FACTS: Same as (b) except T is profitable with net income of $20,000 in each of the prior and current years but P sustained a $100,000 loss in 2011 followed by a return to regular profitability in T S/Hs T A Reorg. Pre-Acq. E&P 2009: $20x 2010: $20x 51% P Shares 12/31/2010 P Pre-Acq. E&P 2009: $30x 2010: $30x 2011: <$100x> RESULTS: P loss can be carried back on P s prior returns but not for T s prior returns because 381(b)(3) precludes carryback to T. 16

17 Problem 3(d) p.556 FACTS: Same as (c) except T & P consolidate into new company C. C sustains $100,000 loss in 2011 and $50,000 of profits in P A Reorg. C A Reorg. T Pre-Acq. E&P 2009: $20x 2010: $20x Pre-Acq. E&P 2009: $30x 2010: $30x 2011: <$100x> RESULTS: Now a carryback to both corporations is precluded by 381(b)(3) because both are transferor corporations. Thus the $100,000 loss carryover would only offset future income, i.e., the $50,000 of income in 2012 and

18 Section 382 Limitation on NOL Carryforwards p.556 Policy Concern: Congress does not want trafficking in Loss Companies or to have Profitable Companies to be overly motivated to buy the tax attributes of Loss Companies. Congressional Response: 382 limits the ongoing usage of net operating losses if the Loss Company has experienced an Ownership Change. 18

19 Section 382 Ownership Change p (g) provides that an ownership change occurs if there is either an owner shift involving 5% shareholders or an equity structure shift. A. Owner Shift of 5% Shareholders: The percentage ownership of a Loss Corporation by 5% or greater shareholders is increased by 50% over the lowest percentage of stock of the loss corporation owned by such shareholders. 1. Ownership shift can occur by reason of purchase, redemptions, 351 transfers, issuances of stock, and recapitalizations. 2. However, owner shifts by reason of gift, death, or divorce are not counted. See 382(l)(3)(B). B. Equity Structure Shift: Includes any reorganization including taxable acquisitions and public offerings that creates an owner shift See 382(g)(2) and (4)(B). 19

20 Section 382 p.563 Garber Industries Holding Co. v. Commissioner Kenneth & Charles are brothers and so their stock is not attributed to each other under 318(a)(1) as they are siblings. Kenneth 26% 65% July % April 1998 Charles 68% 19% 84% Charles purchase creates an ownership change because we take his lowest ownership (19%) in the testing period and compare it to his highest ownership (84%). This is more than a 50% owner shift. Kenneth had a similar 50% owner shift moving from 65% down to zero. Garber Industries 20

21 Section 382 p.563 NOL Poison Pill Plan If any shareholder acquires 4.9% or more stock without pre-approval by the board of directors of the company, then all other historic remaining shareholders have the right to acquire stock at 50% of its FMV to keep the new shareholder from becoming a 5% shareholder. Rationale: Prevent risk of creating an ownership change that would cause a Section 382 limitation on the NOLs of the company. Notable NOL Right Plans: Citibank, General Motors, Ford, JC Penny, AIG. Delaware Court of Chancery decision has upheld such rights plans was a reasonable means to defend the company s value. See Selectica, Inc. v. Versata, Inc., Civ.A. No. 4241, 2010 WL (Del. Ch. 2010). 21

22 Problem 1(a) p.573 FACTS: Loss Co. has 100 shares of common stock owned equally by Shareholders 1 through 25 who are not related to one another. Loss Co. has assets worth $1,000,000 and an NOL of $8,000,000. Will the Section 382 loss limitations apply if all shareholders sell their stock to J? Shareholders Loss Corp 100% L shares Julie RESULT: Ownership change under 382. None of the old L shareholders have an owner shift, but J increases her ownership from 0% to 100% and this represents more than a 50% owner shift per 382(g)(2). J is a 5% shareholder within the meaning of 382(k)(7). 22

23 Problem 1(b) p.573 FACTS: Same as (a) except only Shareholders 1-13 sell their shares to Julie. S/Hs (14-25) S/Hs (1-13) Julie 52% shares Loss Corp RESULT: Ownership change under 382. J s ownership has gone from zero to 52% and this represents more than a 50% owner shift per 382(g) (1). J is a 5% shareholder within the meaning of 382(k)(7). 23

24 Problem 1(c) p.573 FACTS: Same as (a) except only Shareholders 1-12 sell their shares to Julie. S/Hs (14-25) S/Hs (1-12) Julie 48% shares Loss Corp RESULT: No ownership change under 382. J s ownership has gone from zero to 48%. J is a 5% shareholder, but the change in 5% shareholders is less than the 50% owner shift threshold in 382(g)(1). J is a 5% shareholder within the meaning of 382(k)(7). 24

25 Problem 1(d) p.573 FACTS: Same as (c) except Loss Corp redeems Shareholders 13 & 14 two years later. S/Hs (13-14) S/Hs (15-25) S/Hs (1-12) Julie 48% shares Loss Corp RESULT: Ownership change under When shareholders 13 and 14 are redeemed, only 92 shares remain outstanding. Since J owns 48 of the 92 shares, her ownership at this point exceeds 50 percent. Because the stock purchases by J and the redemptions occurred within a single three year period, the "testing period" is the three year period ending on the date of the redemption. 382(i)(1). Even though the redemptions of the stock of Shareholders 13 and 14 directly involved only shareholders who were less than 5-percent shareholders, the redemptions resulted in an owner shift involving a 5-percent shareholder under 382(g)(1). 25

26 Problem 1(e) p.573 FACTS: Same as (c) except Shareholders 13 sells her stock to new Shareholder 26. S/H (26) S/Hs (13) S/Hs (14-25) S/Hs (1-12) Julie 48% shares Loss Corp RESULT: No ownership change under 382. Both Shareholder 13 and new Shareholder 26 are less than 5% shareholders. Any stock owned by them is therefore deemed to be owned by a single 5% shareholder comprised of the whole group of less than 5% shareholders. See 382(b) (4)(A). 26

27 Problem 1(f) p.573 FACTS: Same as (e) except Shareholders 13 & 14 sell their stock to new Shareholder 26. S/H (26) S/Hs (13-14) S/Hs (15-25) S/Hs (1-12) Julie 48% shares Loss Corp RESULT: An ownership change under 382. Both Shareholder 13 and new Shareholder 26 are less than 5% shareholders. Any stock owned by them is therefore deemed to be owned by a single 5% shareholder comprised of the whole group of less than 5% shareholders. See 382(b) (4)(A). 27

28 Problem 1(g) p.573 FACTS: Suppose Shareholders 1-25 sold their shares to Shareholders S/Hs (1-25) 100% shares Loss Corp S/Hs (26-50) RESULT: No ownership change under 382 even though all of the stock has changed hands in this variation. All of the stock was owned by the less than 5-percent shareholders, who constitute a single 5-percent shareholder under 382(g)(4)(A). After the stock sales, all the stock is still owned by the single group of less than 5-percent shareholders. 28

29 Problem 2 p.573 FACTS: Loss Corp distributes 51% ownership to Gain Corp shareholders in a C reorganization. L Shares T S/Hs Liquidation G stock Gain Corp 51% L Shares Exchange Bill T S/Hs Loss Corp 51% Gain Corp Assets RESULT: An ownership change under 382. After the reorganization, the prior less-than-5-percent shareholders of Gain Co., as a group, own just over 50% of the stock of Loss Co. Under 382(g)(4)(A) and (B), the group of less than 5-percent shareholders of Gain Co. are treated as a single shareholder and the prior group of less than 5-percent shareholders of Loss Co. are treated as a separate single shareholder. Reg T(j)(2)(iii)(B)(1). The Gain group has increased its ownership from zero to more than 51% of Loss Co. and an ownership change has occurred with the result that the 382 limitations become applicable. 29

30 FACTS: Whale purchases all of the stock of Minnow for cash. Problem 3 p.573 Minnow S/Hs Whale Co. Minnow Co. RESULT: An ownership change under (g)(4)(B)(i) provides that in an equity structure shift the group of less than 5% shareholders of each corporation is treated as separate 5% shareholders. 382(g)(4)(C) provides that a rule similar to the segregation rules in 382(g)(4)(B) apply to acquisitions by groups of less-than-five-percent shareholders in this context. Thus, the group of less than 5% shareholders of Whale Co. would be treated as separate from the group of less than 5% shareholders of Minnow Co which had its ownership of Minnow go from 0 to 100%. 30

31 Section 382 Results of an Ownership Change p.574 Policy Concern: Congress does not want trafficking in Loss Companies or to have Profitable Companies to be overly motivated to buy the tax attributes of Loss Companies. But, Congress wanted to allow the corporation to use its losses to offset the income from its own business. 382 does this through two limitations: Continuity of Business Enterprise Limit ( 382(c)): Disallows NOLs if the old loss corporation business is not continued for at least two years after the ownership change. 382 Limitation: NOLs can only be used in any post-change period only to the extent of the value of the Loss Corporation multiplied by the long-term tax-exempt rate. 31

32 Section 382 Limitation p.574 Carryforward of Unused Limitation. Just like NOLs can be carried forward, 382(b) allows unused 382 limitation in the current year to be carried forward to be added onto the limit in the next year. Mid-Year Ownership Changes (annual limit is proportionately reduced if the acquisition happens for part of the year. Long-Term Rate is published by IRS monthly. Value of Company is determined by appraisal. There are various antistuffing rules to prevent artificial inflation of the Loss Corp s value. Limit on Built-In Losses. Assets with unrealized built-in losses are also subject to 382 s limitation. The objective here is to prevent this excess depreciation from being able to be deducted post-ownership change. 32

33 Section 382 Limitation 382(h) s Built-In Gains & Losses p.579 Unrealized Built-In Gains (UBIG) that are recognized during the fiveyear recognition period (an RBIG) is allowed to increase the 382 limitation dollar-for-dollar to the extent that the Loss Corp had a net unrealized built-in loss (a NUBIG). Note: One would think that there must be an actual recognition of the built-in gain during the 5-year testing period when one reads the plain meaning of the statute, but the IRS in Notice provides very favorable rules for determining the RBIG that arises in the post-change period. If your client experiences an ownership change, you will want to review this notice in detail in order to maximize the 382 limitation. 33

34 Section 382 Limitation Great Recession Relief p (n) exempted ownership changes resulting from the US Treasury Department gaining 50% increase in ownership as part of the Emergency Economic Stabilization Act of This provision applied to GM to save its $45 billion of NOLs. Notice relaxed 382(h) for banks, stating that any deduction properly allowed after an ownership change to a bank with respect to losses on loans or bad debts (including any deduction for a reasonable addition to a reserve for bad debts) shall not be treated as a built-in loss or a deduction that is attributable to periods before the change date. 1. After this notice, Wells Fargo Bank bought Wachovia. 2. Congress enacted legislation to repudiate this notice in See American Recovery and Reinvestment Act of 2009,

35 Other Limitation Regimes p : States that limitation regime of 382 that applies to NOLs should also apply to limit tax credits. 269: Applies a subjective test to deny the usage of tax attributes if it is determined that the the principal purpose of an acquisition of Loss Crop was evasion or avoidance of Federal income tax by acquiring the benefit of a deduction, credit, or other allowance. 384: Restricts an acquiring corporation from using its preacquisition losses to offset built-in gains of an acquired corporation. Example: L has $100,000 NOL and acquires T in an A reorganization. T s asset is sold for $100,000 of gain. 384 prevents Loss Corp from using its preacquisition NOL to offset the gain on the T asset that arose preacquisition. 35