On May 10, after a delay of almost 27 years, the Internal Revenue Service issued final regulations under Section 336(e) of the Internal Revenue Code. These regulations provide for an election under which the sale or distribution of corporate stock is treated, in certain circumstances, as if a sale of the corporation’s assets had occurred, thus permitting a step-up in the basis of the corporation’s assets for federal income tax purposes. The election is effective for transactions occurring on or after May 15, 2013.
The Section 336(e) election is available to a seller that disposes of at least 80 percent of the stock of a corporation – measured by both voting rights and overall value – within a 12-month period. The disposition must be to an unrelated party and can take the form of a sale, exchange, distribution or any combination of those methods. The regulations require the corporation and the seller of its stock to enter into a binding, written agreement to make the Section 336(e) election. The election generally must be made by the due date for the federal income tax returns of the corporation and the seller for the taxable year that includes the disposition date.
If a Section 336(e) election is made, the transaction generally is treated as if the affected corporation sold its assets to an unrelated person for an amount equal to the purchase price paid for its stock plus any assumed liabilities and then, in liquidation, distributed the proceeds to the selling shareholder or shareholders. Any gain or loss inherent in the corporation’s assets is triggered and, depending on the circumstances, the selling shareholder or shareholders also might recognize a gain or loss on the deemed liquidating distribution. While it continues as the same legal entity, the affected corporation is effectively treated for federal income tax purposes as a new corporation that acquired its assets by purchase.
The Section 336(e) election serves a similar purpose to the Section 338(h)(10) election, which has been available for several years. However, Section 336(e) is more flexible than Section 338(h)(10) and thus provides additional tax-planning opportunities in a wider range of transactions. For example, Section 336(e) allows for multiple purchasers and does not require the acquirer of the stock to be a corporation.
A Section 336(e) election offers many planning opportunities not previously available. Anyone involved in the acquisition of a corporate entity should consider this option. This article provides a general overview of the requirements for and the federal income tax consequences. Because significant tax liability could result from a Section 336(e) election, consult with your legal and tax advisers about the specifics of the proposed transaction before entering into an agreement.
Davenport, Evans, Hurwitz & Smith, LLP, located in Sioux Falls, South Dakota, is one of the State’s largest law firms. The firm’s attorneys provide business and litigation counsel to individuals and corporate clients in a variety of practice areas. For more information about Davenport Evans, visit www.DEHS.com or call 605-336-2880.