Adjusted federal long-term tax-exempt rate for December 2010 is 3.67%
Long-term tax-exempt rate for ownership changes during December 2010 is 3.67%
See Rev. Rul. 2010-29 for more details
Sunday, November 21, 2010
Tuesday, November 9, 2010
New Section Guidance - PLR 201043019
On October 29, the Internal Revenue Service (“IRS”) released Private Letter Ruling 201043019. For a copy of the ruling, please visit our website.
The ruling involved Parent Group, a group of affiliated loss corporations that filed a consolidated return. As of Date 5, Parent Group was owned by two 5-percent shareholders – Company 1 and Company 2. Parent Group had outstanding a single class of Common Stock and two classes of Preferred Stock – Preferred C Stock and Preferred D Stock.
Parent Group requested a ruling regarding the application of Section 382 to a Conversion Transaction.
A summary of Parent Group’s key transactions follows:
Preferred C Transaction: On Date 1, Parent Group issued shares of Preferred C Stock for cash. The Preferred C Stock was non-voting and entitled to quarterly dividends. However, the Preferred C Stock was not convertible into shares of Parent Group’s Common Stock. Parent Group represented that the Preferred C stock was not “stock” within the meaning of Section 1504(a)(4).
Preferred D Transaction: On Date 5, Parent Group issued shares of Preferred D Stock to Company 1 and Company 2 for cash. Unlike the Preferred C Stock, the Preferred D was voting stock and was entitled to daily dividends. In addition, the Preferred D stock was convertible into the shares of Parent Group’s Common Stock.
Conversion Transaction: On Date 11, a Conversion Transaction is contemplated. Specifically, the holders of the outstanding Preferred C and Preferred D stock will exchange their shares for shares of Parent Group Common Stock. Parent Group represented that the Conversion Transaction will be a value-for-value exchange. Parent Group also represented that the terms of the Conversion Transaction will be negotiated in an arm’s-length transaction.
The two issues that the IRS addressed in PLR 201043019 were as follows:
First, what methodology could Parent Group apply for purposes of disregarding stock value fluctuations)in its different classes of stock?
The IRS ruled that Parent Group could use any reasonable method employing the Hold Constant Principle (“HCP”). In reaching this conclusion, the IRS was referring back to Notice 2010-50. Notice 2010-50 is interim guidance which specifically provides that loss corporations may use any reasonable method to employ either the Full Value Methodology or HCP methodology, provided that such methodology is consistently applied.
Second, how should the Conversion Transaction be treated for Section 382 purposes? Specifically, how should the exchange of the Preferred D Stock for Common Stock by Company 1 and 2 be treated? The IRS ruled that to the extent the Conversion Transaction is a value-for-value exchange of stock, it should be disregarded. Company 1 and 2 (the exchanging shareholders) would be deemed to have acquired the Common Stock on Date 5 – the actual date that they acquired the Preferred D stock from Parent because the Conversion Transaction that will occur on Date 11 is to be disregarded. Because Parent Group represented that the Preferred C stock met the requirements under Section 1504(a)(4) it would not be treated as “stock”.
Therefore, only the Common Stock and Preferred D Stock that was issued on Date 5 would be treated as stock in the Conversion Transaction.
The ruling involved Parent Group, a group of affiliated loss corporations that filed a consolidated return. As of Date 5, Parent Group was owned by two 5-percent shareholders – Company 1 and Company 2. Parent Group had outstanding a single class of Common Stock and two classes of Preferred Stock – Preferred C Stock and Preferred D Stock.
Parent Group requested a ruling regarding the application of Section 382 to a Conversion Transaction.
A summary of Parent Group’s key transactions follows:
Preferred C Transaction: On Date 1, Parent Group issued shares of Preferred C Stock for cash. The Preferred C Stock was non-voting and entitled to quarterly dividends. However, the Preferred C Stock was not convertible into shares of Parent Group’s Common Stock. Parent Group represented that the Preferred C stock was not “stock” within the meaning of Section 1504(a)(4).
Preferred D Transaction: On Date 5, Parent Group issued shares of Preferred D Stock to Company 1 and Company 2 for cash. Unlike the Preferred C Stock, the Preferred D was voting stock and was entitled to daily dividends. In addition, the Preferred D stock was convertible into the shares of Parent Group’s Common Stock.
Conversion Transaction: On Date 11, a Conversion Transaction is contemplated. Specifically, the holders of the outstanding Preferred C and Preferred D stock will exchange their shares for shares of Parent Group Common Stock. Parent Group represented that the Conversion Transaction will be a value-for-value exchange. Parent Group also represented that the terms of the Conversion Transaction will be negotiated in an arm’s-length transaction.
The two issues that the IRS addressed in PLR 201043019 were as follows:
First, what methodology could Parent Group apply for purposes of disregarding stock value fluctuations)in its different classes of stock?
The IRS ruled that Parent Group could use any reasonable method employing the Hold Constant Principle (“HCP”). In reaching this conclusion, the IRS was referring back to Notice 2010-50. Notice 2010-50 is interim guidance which specifically provides that loss corporations may use any reasonable method to employ either the Full Value Methodology or HCP methodology, provided that such methodology is consistently applied.
Second, how should the Conversion Transaction be treated for Section 382 purposes? Specifically, how should the exchange of the Preferred D Stock for Common Stock by Company 1 and 2 be treated? The IRS ruled that to the extent the Conversion Transaction is a value-for-value exchange of stock, it should be disregarded. Company 1 and 2 (the exchanging shareholders) would be deemed to have acquired the Common Stock on Date 5 – the actual date that they acquired the Preferred D stock from Parent because the Conversion Transaction that will occur on Date 11 is to be disregarded. Because Parent Group represented that the Preferred C stock met the requirements under Section 1504(a)(4) it would not be treated as “stock”.
Therefore, only the Common Stock and Preferred D Stock that was issued on Date 5 would be treated as stock in the Conversion Transaction.
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