Recent IRS 'North-South' Rulings

Recent private letter rulings by the IRS illustrate the broad scope of tax planning available with respect to internal restructurings of controlled groups.

An issue that routinely arises both in corporate tax practice and in the Internal Revenue Service (IRS) private rulings program is whether a transfer of property (including money) from a shareholder to a corporation that occurs in temporal proximity to a distribution of property (including money) from the corporation to the shareholder should be viewed as an exchange. This so-called "North-South" issue often is raised in the context of spin-off transactions, but may arise in reorganizations or incorporations as well. Examples include transfers that are nominally contributions of cash, stock or other property by a shareholder that occur relatively close in time with purported corporate distributions of cash or stock. The tax consequences of such transfers may be changed radically if treated as exchanges. Of course, shareholders and corporations may engage in transactions denominated as sales, the form of which generally is not pulled apart into separate contributions and distributions by the IRS and the courts. Rather, the circumstances that typically cause concern are those in which the parties engage in formally separate transactions (e.g., a spin-off distribution and an asset contribution to the distributing corporation) that occur at approximately the same time, but which the IRS may assert should be treated as in substance an exchange.

There are a number of different lines of IRS authorities addressing North-South issues. For example, Treas. Reg. §1.301-1(l) provides that a distribution is "within the terms of section 301 although it takes place at the same time as another transaction if the distribution is in substance a separate transaction whether or not connected in a formal sense." The regulation states that this is most likely to occur in the context of a recapitalization or a reorganization under section 368(a)(1)(F). The IRS has applied a "but for" test in applying Treas. Reg. §1.301-1(l) based on a representation like "the separate distributions will take place regardless of whether any other steps of the proposed transaction are consummated" (PLR 9749018 [Sept. 11, 1997]; see also PLR 200752014 [Aug. 22, 2007]).

Historically, in a number of private letter rulings involving spin-off distributions qualifying under sections 355 and 368(a)(1)(D), the IRS has treated...