[Federal Register Volume 59, Number 246 (Friday, December 23, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-31287]


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[Federal Register: December 23, 1994]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[CO-993-71]
RIN 1545-AB21

 

Controlling Corporation's Basis Adjustment in Its Controlled 
Corporation's Stock Following a Triangular Reorganization

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Withdrawal of notice of proposed rulemaking; notice of proposed 
rulemaking and notice of public hearing.

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SUMMARY: This document withdraws proposed regulations published on 
January 2, 1981 at 46 FR 113 and 114, and contains proposed regulations 
under sections 358, 1032, and 1502 of the Internal Revenue Code of 
1986. The proposed regulations provide rules for adjusting the basis of 
a controlling corporation in the stock of a controlled corporation as 
the result of certain triangular reorganizations involving the stock of 
the controlling corporation. The proposed regulations also generally 
provide that the use of the controlling corporation's stock provided by 
the controlling corporation pursuant to the plan of reorganization is 
treated as a disposition of those shares by the controlling 
corporation. The proposed regulations affect corporations that are 
parties to such triangular reorganizations.

DATES: Written comments and outlines of oral comments to be presented 
at the public hearing scheduled for March 31, 1995, at 10:00 a.m., must 
be received by March 10, 1995.

ADDRESSES: Send submissions to: CC:DOM:CORP:T:R (CO-993-71), room 5228, 
Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044. In the alternative, submissions may be hand 
delivered between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:T:R 
(CO:993-71), Courier's Desk, Internal Revenue Service, 1111 
Constitution Avenue, NW, Washington, DC. The hearing will be held in 
the IRS auditorium, 1111 Constitution Avenue, NW, Washington, DC.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
Rose L. Williams, (202) 622-7550; concerning submissions and the 
hearing, Michael Slaughter, (202) 622-7190 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

    This document contains proposed amendments to the Income Tax 
Regulations (26 CFR part 1) under sections 358, 1032, and 1502. The 
proposed regulations provide rules for adjusting the basis of a 
controlling corporation in the stock of a controlled corporation as the 
result of certain triangular reorganizations involving the stock of the 
controlling corporation. The proposed regulations also generally 
provide that the use of the controlling corporation's stock provided by 
the controlling corporation pursuant to the plan of reorganization is 
treated as a disposition of those shares by the controlling 
corporation.

Explanation of Proposed Regulations

    The Internal Revenue Code of 1986 (Code) provides general 
nonrecognition treatment in three-party reorganizations. A three-party 
reorganization can be structured as a reorganization in which (1) a 
parent corporation (P) acquires the assets or stock of a target 
corporation (T) in exchange for P stock and then transfers the acquired 
assets or stock to a subsidiary corporation (S) (a parent/drop 
reorganization), or (2) S acquires the assets or stock of T, or S 
merges into T, in a transaction in which the T shareholders receive P 
stock in exchange for their T stock (a triangular reorganization).

A. Development of Statutory Provisions

    Prior to 1954, gain or loss generally was recognized in three-party 
reorganizations because of the remote continuity of interest doctrine 
enunciated in Groman v. Commissioner, 302 U.S. 82 (1937), and Helvering 
v. Bashford, 302 U.S. 454 (1938).
    In 1954, Congress restricted the application of the remote 
continuity of interest doctrine in certain three-party reorganizations 
by enacting section 368(a)(2)(C) and amending the predecessor to 
section 368(a)(1)(C) (section 112(g)(1)(C) of the Internal Revenue Code 
of 1939). Section 368(a)(2)(C) provides that P's transfer of T assets 
acquired in a reorganization under section 368(a)(1)(A) (merger or 
consolidation) or 368(a)(1)(C) (asset acquisition) to S does not 
disqualify the reorganization. Section 368(a)(1)(C) provides that S can 
acquire T assets directly in exchange for P stock (a triangular C 
reorganization).
    In 1964, Congress further limited the scope of the remote 
continuity of interest doctrine by amending section 368(a)(2)(C) to 
provide that P can transfer T stock acquired in a reorganization under 
section 368(a)(1)(B) (stock acquisition) to S without disqualifying the 
reorganization. Section 368(a)(1)(B) was also amended to provide that S 
can acquire T stock directly in exchange for P stock (a triangular B 
reorganization).
    In 1968, Congress enacted section 368(a)(2)(D) to provide that a 
transaction is not disqualified under sections 368 (a)(1)(A) or 
(a)(1)(G) when S acquires substantially all of the T assets with the 
shareholders of T receiving P stock in exchange for their T stock (a 
forward triangular merger).
    In 1971, Congress enacted section 368(a)(2)(E) to provide that a 
transaction otherwise qualifying under paragraph (a)(1)(A) is not 
disqualified when S merges into T with the shareholders of T receiving 
P stock in exchange for their T stock (a reverse triangular merger).

B. Failure of Statutory Amendments To Deal With Certain Effects of 
Triangular Reorganizations

    Although Congress has increased the number of three-party 
reorganizations that qualify for general nonrecognition treatment, it 
has not provided explicit statutory rules concerning certain effects of 
those reorganizations. For example, Congress has not provided rules 
regarding the adjustments, if any, to be made to P's basis in its S or 
T stock, as applicable, following a triangular reorganization. Also, 
Congress has not explicitly provided that S does not recognize gain on 
its exchange of P stock for T assets or stock in a triangular 
reorganization. These issues do not arise in a parent/drop 
reorganization because section 358 applies to determine P's basis in S 
stock on P's transfer of T's assets or stock to S, and section 1032 
applies to P's exchange of its own stock for T assets or stock.

C. 1981 Proposed Regulations

    In 1981, regulations were proposed under sections 358 and 1032 that 
generally would have conformed certain tax consequences of a triangular 
reorganization with the consequences of its counterpart parent/drop 
reorganization. To achieve this conformity, the 1981 proposed 
regulations employed mechanical rules that generally simulated the 
basis effects that would have resulted if P had acquired the T assets 
or stock directly and then transferred the assets or stock to S 
(sometimes referred to as an over-the-top model). Also, under the 1981 
proposed regulations, S did not recognize any gain or loss on its use 
of P stock in a forward triangular merger or a triangular B or C 
reorganization.
    Comments received on the 1981 proposed regulations generally agreed 
with the over-the-top model for basis determinations in triangular 
reorganizations.

D. Justification of the Over-The-Top Model

    Adoption of the over-the-top model is appropriate for triangular 
reorganizations. First, the basis results in a parent/drop 
reorganization are clearly defined by the Code. The paired enactment 
pattern of legislation involving section 368 evidences Congressional 
intent that the basis results in a triangular reorganization should 
conform to the basis results in its counterpart parent/drop 
reorganization. The exceptions to this pattern were the provisions 
dealing with the forward triangular merger and the reverse triangular 
merger. However, Congress recognized that even the forward triangular 
merger and the reverse triangular merger had counterparts. See S. Rep. 
No. 1563, 90th Cong., 2d Sess. 2 (1968) (a forward triangular merger is 
like a section 368(a)(1)(A) merger with a subsequent transfer of assets 
under section 368(a)(2)(C)); S. Rep. No. 1533, 91st Cong., 2d Sess. 2 
(1970) (a reverse triangular merger should be afforded similar 
treatment to a forward triangular merger). Achieving comparability 
between a triangular reorganization and its counterpart parent/drop 
reorganization furthers sound tax policy by treating economically 
comparable reorganizations similarly.
    Second, S stock owned by P can be viewed as a surrogate for the T 
assets or stock acquired by S in the reorganization. Section 362(b) 
requires that the acquiring corporation take a transferred basis in the 
assets or stock acquired. Although section 362(b) does not literally 
apply to P as a party to a triangular reorganization (because T assets 
or stock are not actually acquired by P), the S stock can be viewed as 
a surrogate for the assets or stock acquired by S. Thus, the principles 
of section 362(b) should govern the adjustment to P's basis in its S 
stock. Consequently, a triangular reorganization should result in an 
adjustment to P's basis in its S stock reflecting the basis in the T 
assets or stock acquired by S. Furthermore, by treating the S stock as 
a surrogate for the T assets or stock acquired by S, the over-the-top 
model achieves neutrality for P between a sale of the S stock and a 
sale by S of the assets or stock acquired in the reorganization.

E. The New Proposed Regulations

1. Retention of the Over-The-Top Model
    This document withdraws the proposed regulations published on 
January 2, 1981 at 46 FR 113 and 114. It proposes new regulations under 
sections 358 and 1502 that generally employ an over-the-top model for 
determining P's basis adjustment in S or T stock as a result of certain 
triangular reorganizations. It also proposes new regulations under 
section 1032 that provide that the use of P stock provided by P to S 
pursuant to the plan of reorganization is treated as a disposition of 
those shares by P. Consequently, neither P nor S has taxable gain or 
deductible loss on the exchange.
    In contrast to the mechanical rules employed in the 1981 proposed 
regulations, the new proposed regulations set forth general rules for 
adjusting basis. For example, the new proposed regulations provide that 
P's basis in its S stock immediately after a forward triangular merger 
described in sections 368 (a)(1)(A) and (a)(2)(D) is adjusted (with 
certain modifications described below) as if P acquired the T assets 
(and any liabilities assumed or to which the T assets were subject) 
directly from T in a transaction in which P's basis in the T assets was 
determined under section 362(b), and P then transferred the T assets 
(and liabilities) to S in a transaction in which P's basis in the S 
stock was adjusted under section 358. Despite the change in format from 
mechanical rules to general rules, the new proposed regulations and the 
1981 proposed regulations should produce similar tax effects, with 
limited differences that are noted in the discussion below.
    The over-the-top model is not intended to construct a transfer of T 
assets or stock from P to S for any purpose of the Code except the 
determination of P's basis in its S or T stock. Thus, for example, 
section 357(c) does not apply if T's liabilities exceed T's aggregate 
asset basis (even though it would apply in a parent/drop 
reorganization). Furthermore, section 1001 applies if S exchanges its 
assets for T's assets or stock (even though in a parent/drop 
reorganization, S's consideration would have to be distributed to P 
with the consequences determined under sections 301 and 311).
2. Specific Issues
    (a) Decrease for consideration not provided by P. The 1981 proposed 
regulations generally would have required P to reduce its basis in its 
S or T stock by the fair market value of the consideration not provided 
by P in the reorganization. New proposed Sec. 1.358-6(d) similarly 
requires a reduction in P's basis in its S or T stock by the fair 
market value of consideration not provided by P (including any P stock 
not provided by P pursuant to the plan of reorganization).
    (b) Decreases under the model and negative basis. A strict 
application of the over-the-top model would require P to adjust its 
historic basis in its S stock, if any, even below zero. For example, 
the model relies in part on section 358 which requires a reduction in 
basis for the amount of liabilities assumed or to which the T assets 
are subject. If the amount of liabilities assumed exceeds the basis of 
the T assets acquired, the resulting net negative adjustment could 
reduce P's basis in its S stock below zero. Similarly, the decrease for 
the fair market value of consideration not provided by P could reduce 
P's basis below zero.
    The new proposed regulations permit a net negative adjustment to 
P's historic basis in S only in the case in which P and S, or P and T, 
as applicable, are members of a consolidated group following the 
triangular reorganization. In the consolidated context, the adjustment 
may result in an excess loss account under Sec. 1.1502-19 for P in its 
S or T stock. See new proposed Sec. 1.1502-30.
    The new proposed regulations preclude a net negative adjustment in 
a nonconsolidated context. See new proposed Secs. 1.358-6 (c)(1)(ii) 
and (d)(2). The difference in result is attributable to the fact that 
the consolidated return regulations provide for an excess loss account, 
a concept similar to negative basis, while the concept of negative 
basis generally is not used under the Code. Thus, in the 
nonconsolidated context, the adjustment does not result in a negative 
basis. Moreover, in the nonconsolidated context, the adjustment does 
not cause a reduction to P's historic basis even if that reduction 
would not result in a negative basis. In this way, the new proposed 
regulations do not disfavor the use of an existing S in the 
reorganization because any historic basis of P in its S stock is not 
reduced.
    (c) Reverse triangular mergers. The 1981 proposed regulations 
generally would have provided that P's basis in T stock in the case of 
a reverse triangular merger described in sections 368 (a)(1)(A) and 
(a)(2)(E) was adjusted as if T's assets were acquired in the 
reorganization. A limited transition rule determined P's basis under 
section 362(b) (as if the transaction were described in section 
368(a)(1)(B)) for reverse triangular mergers occurring before March 3, 
1981, that were described in Rev. Rul. 67-448, 1967-2 C.B. 144, if the 
resulting basis determined under section 362(b) would have been greater 
than under the general rule.
    New proposed Sec. 1.358-6(c)(2)(i) continues the general rule that 
P's basis in its T stock in the case of a reverse triangular merger is 
adjusted as if T's assets were acquired. However, if P receives less 
than all of T's stock in a reverse triangular merger, P's basis in the 
T stock received is determined only with respect to an allocable 
portion of the basis determined under new proposed Sec. 1.358-
6(c)(2)(i).
    In addition, new proposed Sec. 1.358-6(c)(2)(iii) contains a 
special rule if the transaction qualifies as both a reverse triangular 
merger and a stock acquisition under section 368(a)(1)(B). Under this 
rule, P may adjust its basis in its T stock based either on T's asset 
basis (under the rules set forth in these proposed regulations for 
forward triangular reorganizations) or on the aggregate basis of the T 
stock surrendered in the transaction (as if the transaction were a 
reorganization under section 368(a)(1)(B)).
    (d) Section 1032 nonrecognition treatment. The 1981 proposed 
regulations would have extended section 1032 nonrecognition treatment 
to S on its use of P stock in certain triangular reorganizations.
    New proposed Sec. 1.1032-2 generally continues this rule, by 
providing that the use of P stock provided by P to S, or directly to T 
or the T shareholders on behalf of S, pursuant to the plan of 
reorganization is treated as a disposition of those shares by P. 
Consequently, neither P nor S has taxable gain or deductible loss on 
the exchange. However, to the extent that S exchanges P stock in the 
reorganization which it did not receive from P pursuant to the plan of 
reorganization, S recognizes gain or loss on the exchange of that 
stock.

F. Proposed Effective Dates

    Generally, new proposed Sec. 1.358-6 will apply with respect to all 
triangular reorganizations occurring on or after December 23, 1994. In 
addition, with respect to reverse triangular mergers occurring before 
December 23, 1994, P may adjust its basis in its T stock as if P 
acquired the stock of the former T shareholders in a transaction in 
which its basis was determined under section 362(b) (i.e., as a section 
368(a)(1)(B) reorganization, without regard to whether the transaction 
qualifies as such).
    Taxpayers should be aware that, although these new proposed 
regulations will apply only to triangular reorganizations occurring on 
or after December 23, 1994, the IRS and Treasury believe that any 
adjustment to P's basis in its S or T stock (as applicable) following a 
triangular reorganization occurring before December 23, 1994, must be 
consistent with the adjustment that would be made if P had made the 
acquisition directly and P then transferred the assets to a controlled 
subsidiary. With respect to reverse triangular mergers occurring before 
December 23, 1994, see new proposed Sec. 1.358-6(f)(2).
    New proposed Sec. 1.1032-2 will apply with respect to certain 
triangular reorganizations occurring on or after December 23, 1994. 
With respect to triangular reorganizations occurring before December 
23, 1994, see, e.g., Sec. 1.1032-1 and Rev. Rul. 57-278, 1957-1 C.B. 
124.
    New proposed Sec. 1.1502-30 will apply with respect to triangular 
reorganizations occurring on or after December 23, 1994, in which P and 
S, or P and T, as applicable, are members of a consolidated group 
following the triangular reorganization. For triangular reorganizations 
occurring before December 23, 1994, in which P and S, or P and T, as 
applicable, are members of a consolidated group following the 
triangular reorganization, any adjustments to P's basis in its S or T 
stock (as applicable) must be consistent with the rules applicable for 
nonconsolidated taxpayers. But see Secs. 1.1502-31 (59 FR 41666 (Aug. 
15, 1994)) and -31T (26 CFR Sec. 1.1502-31T (1994)) for rules 
determining basis following transactions that are group structure 
changes.

G. Request for Comments Concerning Related Party and Cross Ownership 
Issues

    The IRS and Treasury request comments concerning the tax 
consequences that arise in cases of restructurings involving related 
parties and, more generally, involving cross ownership. For example, 
Rev. Rul. 69-413, 1969-2 C.B. 55, assumes that the restructuring of an 
affiliated group described therein is a triangular C reorganization. It 
is arguable, though, that the restructuring should have been viewed as 
a reorganization under section 368(a)(1)(D) and treated accordingly. 
The tax consequences, including the effect on P's basis in S, are 
different depending on the characterization of the restructuring. After 
reviewing the comments received in response to this request, the IRS 
may withdraw, revoke, or obsolete certain rulings.
    There may be some historic cross ownership of stock between P and 
T, or S and T that is affected by a triangular reorganization. For 
example, S may be a historic owner of some of the T stock outstanding 
at the time that T merges into S, but S receives no P stock in exchange 
for its T stock. Comments are requested whether such a merger qualifies 
as a forward triangular merger, and as to how and when tax consequences 
relating to the extinguishment of S's stock ownership in T should be 
accounted for.

Special Analyses

    It has been determined that this notice of proposed rulemaking is 
not a significant regulatory action as defined in Executive Order 
12866. Therefore, a regulatory assessment is not required. It has also 
been determined that section 553(b) of the Administrative Procedure Act 
(5 U.S.C. chapter 5) and the Regulatory Flexibility Act (5 U.S.C. 
chapter 6) do not apply to these regulations, and, therefore, a 
Regulatory Flexibility Analysis is not required. Pursuant to section 
7805(f) of the Internal Revenue Code, this notice of proposed 
rulemaking will be submitted to the Chief Counsel for Advocacy of the 
Small Business Administration for comment on its impact on small 
business.

Comments and Public Hearing

    Before these proposed regulations are adopted as final regulations, 
consideration will be given to any written comments (a signed original 
and eight (8) copies) that are submitted timely to the IRS. All 
comments will be available for public inspection and copying.
    A public hearing is scheduled for March 31, 1995, at 10 a.m., in 
the IRS auditorium. Because of access restrictions, visitors will not 
be admitted beyond the Internal Revenue Building lobby more than 15 
minutes before the hearing starts.
    The rules of 26 CFR 601.601(a)(3) apply to the hearing.
    Persons who wish to present oral comments at the hearing must 
submit written comments by March 10, 1995, and submit an outline of the 
topics (signed original and eight (8) copies) to be discussed by March 
10, 1995.
    A period of 10 minutes will be allotted to each person for making 
comments.
    An agenda showing the scheduling of the speakers will be prepared 
after the deadline for receiving outlines has passed. Copies of the 
agenda will be available free of charge at the hearing.

Drafting Information

    The principal author of these regulations is Rose L. Williams, 
Office of Assistant Chief Counsel (Corporate). However, other personnel 
from the IRS and Treasury Department participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR part 1 is proposed to be amended as follows:

PART 1--INCOME TAXES

    Paragraph 1. The authority citation for part 1 continues to read in 
part:

    Authority: 26 U.S.C. 7805 * * *

Section 1.1502-30 also issued under 26 U.S.C. 1502 * * *

    Par. 2. Section 1.358-6 is proposed to be added to read as follows:


Sec. 1.358-6   Stock basis in certain triangular reorganizations.

    (a) Scope. This section provides rules for computing the basis of a 
controlling corporation in the stock of a controlled corporation as the 
result of certain reorganizations involving the stock of the 
controlling corporation as described in paragraph (b) of this section. 
The rules of this section are in addition to rules under other 
provisions of the Code and principles of law. See, e.g., section 1001 
for the recognition of gain or loss by the controlled corporation on 
the exchange of property for the assets or stock of a target 
corporation in a reorganization described in section 368.
    (b) Triangular reorganizations--(1) Nomenclature. For purposes of 
this section--
    (i) P is a corporation--
    (A) that is a party to a reorganization,
    (B) that is in control (within the meaning of section 368(c)) 
immediately before the reorganization of another party to the 
reorganization, and
    (C) whose stock is transferred pursuant to the reorganization.
    (ii) S is a corporation--
    (A) that is a party to the reorganization, and
    (B) that is controlled by P before the reorganization.
    (iii) T is a corporation that is another party to the 
reorganization.
    (2) Definitions of triangular reorganizations. This section applies 
to the following reorganizations (which are referred to collectively as 
triangular reorganizations):
    (i) Forward triangular merger. A forward triangular merger is a 
statutory merger of T and S, with S surviving, that qualifies as a 
reorganization under section 368(a)(1) (A) or (G) by reason of the 
application of section 368(a)(2)(D).
    (ii) Triangular C reorganization. A triangular C reorganization is 
an acquisition by S of substantially all of T's assets in exchange for 
P stock in a transaction that qualifies as a reorganization under 
section 368(a)(1)(C).
    (iii) Reverse triangular merger. A reverse triangular merger is a 
statutory merger of S and T, with T surviving, that qualifies as a 
reorganization under section 368(a)(1)(A) by reason of the application 
of section 368(a)(2)(E).
    (iv) Triangular B reorganization. A triangular B reorganization is 
an acquisition by S of T stock in exchange for P stock in a transaction 
that qualifies as a reorganization under section 368(a)(1)(B).
    (c) General rules. Subject to the special rule provided in 
paragraph (d) of this section, P's basis in the stock of S or T, as 
applicable, immediately after a triangular reorganization, is adjusted 
as a result of the triangular reorganization under the following 
rules--
    (1) Forward triangular merger or triangular C reorganization--(i) 
In general. In a forward triangular merger or a triangular C 
reorganization, P's basis in its S stock is adjusted as if--
    (A) P acquired the T assets acquired by S in the reorganization 
(and P assumed any liabilities which S assumed or to which the T assets 
were subject) directly from T in a transaction in which P's basis in 
the T assets was determined under section 362(b); and
    (B) P transferred the T assets (and liabilities assumed or to which 
the T assets were subject) to S in a transaction in which P's basis in 
S stock was determined under section 358.
    (ii) Limitation. If, in applying section 358, the amount of T 
liabilities assumed by S or to which the T assets are subject exceeds 
T's aggregate adjusted basis in its assets, the amount of the 
adjustment under paragraph (c)(1)(i) of this section is zero. P 
recognizes no gain under section 357(c) as a result of a triangular 
reorganization.
    (2) Reverse triangular merger--(i) In general. Except as provided 
in paragraph (c)(2)(ii) of this section, in a reverse triangular 
merger, P's basis in T stock is adjusted as if T merged into S in a 
forward triangular merger to which paragraph (c)(1) of this section 
applied.
    (ii) Allocable share. If P receives less than all of T's stock in a 
reverse triangular merger in which P determines its basis in its T 
stock under paragraph (c)(2)(i) of this section, P's basis in the T 
stock received is adjusted only by an allocable portion of the basis 
adjustment otherwise determined under paragraph (c)(2)(i) of this 
section.
    (iii) Reverse triangular merger that also qualifies under section 
368(a)(1)(B). Notwithstanding paragraph (c)(2)(i) of this section, if a 
reorganization qualifies as both a reverse triangular merger and a 
reorganization under section 368(a)(1)(B), P can--
    (A) adjust the basis in its T stock as if paragraph (c)(2)(i) of 
this section applied; or
    (B) determine the basis in its T stock acquired as if P acquired 
such stock from the former T shareholders (other than P) in a 
transaction in which P's basis in the T stock was determined under 
section 362(b).
    (3) Triangular B reorganization. In a triangular B reorganization, 
P's basis in its S stock is adjusted as if--
    (i) P acquired the T stock acquired by S in the reorganization 
directly from the T shareholders in a transaction in which P's basis in 
the T stock was determined under section 362(b); and
    (ii) P transferred the T stock to S in a transaction in which P's 
basis in its S stock was determined under section 358.
    (4) Examples. The rules of this paragraph (c) are illustrated by 
the following examples. For purposes of these examples, P, S, and T are 
domestic corporations, P and S do not file consolidated returns, P owns 
all of the only class of S stock, the P stock exchanged in the 
transaction satisfies the requirements of the applicable triangular 
reorganization provisions, and the facts set forth the only corporate 
activity.

    Example 1. Forward triangular merger. (a) Facts. T has assets 
with an aggregate basis of $60 and fair market value of $100 and no 
liabilities. Pursuant to a plan, P forms S with $5 cash (which S 
retains), and T merges into S. In the merger, the T shareholders 
receive P stock worth $100 in exchange for their T stock. The 
transaction is a reorganization to which sections 368(a)(1)(A) and 
(a)(2)(D) apply.
    (b) Basis adjustment. Under paragraph (c)(1) of this section, P 
adjusts its basis in S stock immediately after the reorganization by 
treating P as if it acquired the T assets acquired by S in the 
reorganization directly from T in a transaction in which P's basis 
in the T assets was determined under section 362(b). Under section 
362(b), P would have an aggregate basis of $60 in the T assets. P is 
then treated as if it transferred the T assets to S in a transaction 
in which P's basis in the S stock was determined under section 358. 
Under section 358, P's basis in its S stock would be increased by 
the $60 basis in the T assets deemed transferred. Consequently, P 
has a $65 basis in its S stock immediately after the reorganization.
    (c) Use of pre-existing S. The facts are the same as paragraph 
(a) of this Example 1, except that S is an operating company with 
substantial assets that has been in existence for several years. P 
has a $110 basis in the S stock. Under paragraph (c)(1) of this 
section, P's $110 basis in its S stock immediately before the 
reorganization is increased by the $60 basis in the T assets deemed 
transferred. Consequently, P has a $170 basis in its S stock 
immediately after the reorganization.
    (d) Mixed consideration. The facts are the same as paragraph (a) 
of this Example 1, except that the T shareholders receive P stock 
worth $80 and $20 cash from P. Under section 358, P's basis in its S 
stock would be increased by the $60 basis in the T assets deemed 
transferred. Consequently, P has a $65 basis in its S stock 
immediately after the reorganization (the $5 initial basis 
representing the $5 cash retained by S, adjusted by $60).
    (e) Liabilities. The facts are the same as paragraph (a) of this 
Example 1, except that T's assets are subject to $50 of liabilities, 
and the T shareholders receive $50 of P stock in exchange for their 
T stock. Under section 358, P's basis in its S stock would be 
increased by the $60 basis in the T assets deemed transferred and 
decreased by the $50 of liabilities to which the T assets are 
subject. Consequently, P has a net adjustment of $10 in its S stock, 
and P has a $15 basis in its S stock immediately after the 
reorganization.
    (f) Liabilities in excess of basis. The facts are the same as in 
paragraph (a) of this Example 1, except that T's assets are subject 
to liabilities of $90, and the T shareholders receive $10 of P stock 
in exchange for their T stock in the reorganization. Under paragraph 
(c)(1)(ii) of this section, the adjustment under paragraph (c) of 
this section is zero if the amount of the liabilities assumed or to 
which the acquired assets are subject exceeds the aggregate adjusted 
basis in T's assets. Consequently, P has no adjustment in its S 
stock, and P has a $5 basis in its S stock immediately after the 
reorganization.
    Example 2. Reverse triangular merger. (a) Facts. T has assets 
with an aggregate basis of $60 and a fair market value of $100 and 
no liabilities. S is an operating company with substantial assets 
that has been in existence for several years. P has a $110 basis in 
its S stock. Pursuant to a plan, S merges into T with T surviving. 
In the merger, the T shareholders receive P stock worth $100 in 
exchange for their T stock. The transaction is a reorganization to 
which sections 368(a)(1)(A) and (a)(2)(E) apply. Because S is a 
previously existing operating company with substantial assets, the 
transaction does not qualify as a reorganization under section 
368(a)(1)(B).
    (b) Basis adjustment. Under paragraph (c)(2)(i) of this section, 
P's basis in its T stock immediately after the reorganization is the 
same basis that P would have had in S stock if T had merged into S 
in a forward triangular merger with S surviving. In such a case, P's 
$110 basis in its S stock immediately before the reorganization 
would have been increased by the $60 basis of the T assets deemed 
transferred. Consequently, P has a $170 basis in its T stock 
immediately after the reorganization.
    (c) Reverse triangular merger that also qualifies under section 
368(a)(1)(B). The facts are the same as in paragraph (a) of this 
Example 2, except that P forms S pursuant to the plan of 
reorganization with $5 cash. The T shareholders have an aggregate 
basis in their T stock of $85 immediately before the reorganization. 
The reorganization qualifies as both a reverse triangular merger and 
a reorganization under section 368(a)(1)(B). Under paragraph 
(c)(2)(iii) of this section, P may adjust its basis in its T stock 
immediately after the reorganization either as if paragraph 
(c)(2)(i) of this section applied, or as if P acquired the T stock 
surrendered by the T shareholders in the reorganization in a 
transaction in which P's basis in the T stock was determined under 
section 362(b). Accordingly, P may adjust its $5 basis by $60 (T's 
net asset basis) or $85 (the T shareholders' aggregate basis 
immediately before the reorganization in the T stock surrendered in 
the reorganization).
    (d) Allocable share. The facts are the same as in paragraph (a) 
of this Example 2, except that X, a 10% shareholder of T, does not 
exchange its stock for P stock. Thus, immediately after the reverse 
triangular merger P owns less than all of the T stock. Under 
paragraph (c)(2)(ii) of this section, P adjusts its basis in the T 
stock only by the allocable portion of the basis adjustment 
otherwise determined under paragraph (c)(2)(i) of this section. 
Under paragraph (c)(2)(i) of this section, P would adjust its basis 
in the T stock by $60. However, because X did not exchange its 10% 
interest in T, P adjusts its basis in the T stock by 90% of $60, or 
$54. Consequently, P has an adjustment of $54 in its T stock, and P 
has a $164 basis in its T stock immediately after the 
reorganization.
    (e) Liabilities. The facts are the same as in paragraph (d) of 
this Example 2, except that T's assets are subject to $50 of 
liabilities. Under paragraph (c)(2)(i) of this section, P would 
adjust its basis in the T stock by $10. However, P only acquired 90% 
of the T stock and thus, it only adjusts its basis in the T stock by 
90% of $10, or $9. Consequently, P has an adjustment of $9 in its T 
stock, and P has a $119 basis in its T stock immediately after the 
reorganization.
    Example 3. Triangular B reorganization. (a) Facts. T has assets 
with a fair market value of $100 and no liabilities. The T 
shareholders have an aggregate basis in their T stock of $85 
immediately before the reorganization. Pursuant to a plan, P forms S 
with $5 cash and S acquires all of the T stock in exchange for $100 
of P stock. The transaction is a reorganization to which section 
368(a)(1)(B) applies.
    (b) Basis adjustment. Under paragraph (c)(3) of this section, 
P's basis in its S stock immediately after the reorganization is 
adjusted by treating P as if it acquired the T stock acquired by S 
in the reorganization directly from the T shareholders in exchange 
for the P stock in a transaction in which P's basis in the T stock 
was determined under section 362(b). Under section 362(b), P would 
have an aggregate basis of $85 in the T stock received by S in the 
reorganization. P is then treated as if it transferred the T stock 
to S in a transaction in which P's basis in the S stock was 
determined under section 358. Under section 358, P's basis in its S 
stock would be increased by the $85 basis in the T stock deemed 
transferred. Consequently, P has a $90 basis in its S stock 
immediately after the reorganization.

    (d) Special rule for consideration not provided by P--(1) In 
general. The amount of P's adjustment to basis in its S or T stock, as 
applicable, described in paragraph (c) of this section is decreased by 
the fair market value of any consideration (including P stock in which 
gain is recognized, see Sec. 1.1032-(2)(c)) that is exchanged in the 
reorganization and that is not provided by P pursuant to the plan of 
reorganization. This paragraph (d) does not apply to the amount of T 
liabilities assumed by S or to which the T assets are subject under 
paragraph (c)(1) of this section (or deemed assumed or taken subject to 
by S under paragraph (c)(2)(i) and (ii) of this section).
    (2) Limitation. P makes no adjustment to basis under this section 
if the decrease required under paragraph (d)(1) of this section exceeds 
the amount of the adjustment described in paragraph (c) of this 
section.
    (3) Example. The rules of this paragraph (d) are illustrated by the 
following example. For purposes of this example, P, S, and T are 
domestic corporations, P and S do not file consolidated returns, P owns 
all of the only class of S stock, the P stock exchanged in the 
transaction satisfies the requirements of the applicable triangular 
reorganization provisions, and the facts set forth the only corporate 
activity.

    Example. (a) Facts. T has assets with an aggregate basis of $60 
and fair market value of $100 and no liabilities. S is an operating 
company with substantial assets that has been in existence for 
several years. P has a $100 basis in its S stock. Pursuant to a 
plan, T merges into S and the T shareholders receive $70 of P stock 
provided by P pursuant to the plan and $30 of cash provided by S in 
exchange for their T stock. The transaction is a reorganization to 
which sections 368(a)(1)(A) and (a)(2)(D) apply.
    (b) Basis adjustment. Under paragraph (c)(1) of this section, 
P's $100 basis in its S stock is increased by the $60 basis in the T 
assets deemed transferred. Under paragraph (d)(1) of this section, 
the $60 adjustment is decreased by the $30 of cash provided by S in 
the reorganization. Consequently, P has a net adjustment of $30 in 
its S stock, and P has a $130 basis in its S stock immediately after 
the reorganization.
    (c) Appreciated asset. The facts are the same as in paragraph 
(a) of this Example, except that in the reorganization S provides an 
asset with a $20 adjusted basis and $30 fair market value instead of 
$30 of cash. The basis results are the same as in paragraph (b) of 
this Example. In addition, S recognizes $10 of gain under section 
1001 on its disposition of the asset in the reorganization.
    (d) Depreciated asset. The facts are the same as in paragraph 
(c) of this Example, except that S has a $60 adjusted basis in the 
asset. The basis results are the same as in paragraph (b) of this 
Example. In addition, S recognizes $30 of loss under section 1001 on 
its disposition of the asset in the reorganization.
    (e) P stock. The facts are the same as in paragraph (a) of this 
Example, except that in the reorganization S provides P stock with a 
fair market value of $30 instead of $30 of cash. S acquired the P 
stock in an unrelated transaction several years before the 
reorganization. S has a $20 adjusted basis in the P stock. The basis 
results are the same as in paragraph (b) of this Example. In 
addition, S recognizes $10 of gain on its disposition of the P stock 
in the reorganization. See Sec. 1.1032-2(c).

    (e) Cross-reference. For rules relating to stock basis adjustments 
made immediately after a triangular reorganization in which P and S, or 
P and T, as applicable, are, or become, members of a consolidated 
group, see Sec. 1.1502-30.
    (f) Effective dates--(1) General rule. Except as otherwise provided 
in this paragraph (f), this section applies to triangular 
reorganizations occurring on or after December 23, 1994.
    (2) Special rule for reverse triangular mergers. For a reverse 
triangular merger occurring before December 23, 1994, P may--
    (i) Determine the basis in its T stock as if paragraph (c)(2)(i) of 
this section applied, or
    (ii) Determine the basis in its T stock acquired as if P acquired 
such stock from the former T shareholders in a transaction in which P's 
basis in the T stock was determined under section 362(b).
    Par. 3. Section 1.1032-2 is proposed to be added to read as 
follows:


Sec. 1.1032-2  Disposition by a corporation of stock of a controlling 
corporation in certain triangular reorganizations.

    (a) Scope. This section provides rules for certain triangular 
reorganizations described in Sec. 1.358-(6)(b) when the acquiring 
corporation (S) acquires property or stock of another corporation (T) 
in exchange for stock of the corporation (P) in control of S.
    (b) General nonrecognition of gain or loss. For purposes of 
Sec. 1.1032-1(a), in the case of a forward triangular merger, a 
triangular C reorganization, or a triangular B reorganization (as 
described in Sec. 1.358-6(b)), P stock provided by P to S, or directly 
to T or T's shareholders on behalf of S, pursuant to the plan of 
reorganization is treated as a disposition by P of shares of its own 
stock for T's assets or stock, as applicable.
    (c) Treatment of S. S must recognize gain or loss on its exchange 
of P stock as consideration in a reorganization described in paragraph 
(b) of this section if S did not receive the P stock from P pursuant to 
the plan of reorganization. See Sec. 1.358-6(d) for the effect on P's 
basis in its S or T stock, as applicable.
    (d) Examples. The rules of this section are illustrated by the 
following examples. For purposes of these examples, P, S, and T are 
domestic corporations, P and S do not file consolidated returns, P owns 
all of the only class of S stock, the P stock exchanged in the 
transaction satisfies the requirements of the applicable reorganization 
provisions, and the facts set forth the only corporate activity.

    Example 1. Forward triangular merger solely for P stock. (a) 
Facts. T has assets with an aggregate basis of $60 and fair market 
value of $100 and no liabilities. Pursuant to a plan, P forms S by 
transferring $100 of P stock to S and T merges into S. In the 
merger, the T shareholders receive, in exchange for their T stock, 
the P stock that P transferred to S. The transaction is a 
reorganization to which sections 368(a)(1)(A) and (a)(2)(D) apply.
    (b) No gain or loss recognized on the use of P stock. Under 
paragraph (b) of this section, the P stock provided by P pursuant to 
the plan of reorganization is treated for purposes of Sec. 1.1032-
(1)(a) as disposed of by P for the T assets acquired by S in the 
merger. Consequently, neither P nor S has taxable gain or deductible 
loss on the exchange.
    Example 2. Forward triangular merger solely for P stock provided 
in part by S. (a) Facts. T has assets with an aggregate basis of $60 
and fair market value of $100 and no liabilities. S is an operating 
company with substantial assets that has been in existence for 
several years. S also owns P stock with a $20 adjusted basis and $30 
fair market value. S acquired the P stock in an unrelated 
transaction several years before the reorganization. Pursuant to a 
plan, P transfers additional P stock worth $70 to S and T merges 
into S. In the merger, the T shareholders receive $100 of P stock 
($70 of P stock provided by P and $30 of P stock provided by S). The 
transaction is a reorganization to which sections 368(a)(1)(A) and 
(a)(2)(D) apply.
    (b) Gain or loss recognized by S on the use of its P stock. 
Under paragraph (b) of this section, the $70 of P stock provided by 
P pursuant to the plan of reorganization is treated as disposed of 
by P for the T assets acquired by S in the merger. Consequently, 
neither P nor S has taxable gain or deductible loss on the exchange 
of those shares. Under paragraph (c) of this section, however, S 
recognizes $10 of gain on the exchange of its P stock in the 
reorganization because S did not receive the P stock from P pursuant 
to the plan of reorganization. See Sec. 1.358-6(d) for the effect on 
P's basis in its S or T stock, as applicable.

    (e) Effective date. This section applies to triangular 
reorganizations occurring on or after December 23, 1994.
    Par. 4. Section 1.1502-30 is proposed to be added under the heading 
``Basis, stock ownership, and earnings and profits rules'' to read as 
follows:


Sec. 1.1502-30  Stock basis after certain triangular reorganizations.

    (a) Scope. This section provides rules for adjusting the basis in 
the stock of an acquiring corporation immediately after a triangular 
reorganization. The definitions and nomenclature contained in 
Sec. 1.358-6 apply to this section.
    (b) General rules--(1) Forward triangular merger, triangular C 
reorganization, or triangular B reorganization. P adjusts its basis in 
the stock of S immediately after a forward triangular merger, 
triangular C reorganization, or triangular B reorganization under 
Secs. 1.358-6(c) and 1.358-6(d), except that Secs. 1.358-6 (c)(1)(ii) 
and (d)(2) do not apply. Instead, P adjusts such basis by taking into 
account the full amount of--
    (i) T liabilities assumed by S or the amount of liabilities to 
which the T assets are subject, and
    (ii) the fair market value of any consideration not provided by P 
pursuant to the plan of reorganization.
    (2) Reverse triangular merger. If P adjusts its basis in the T 
stock acquired immediately after a reverse triangular merger under 
Secs. 1.358-6(c)(2) and 1.358-6(d), Secs. 1.358-6 (c)(1)(ii) and (d)(2) 
do not apply. Instead, P adjusts such basis by taking into account the 
full amount of--
    (i) T liabilities deemed assumed by S or the amount of liabilities 
to which the T assets are subject, and
    (ii) the fair market value of any consideration not provided by P 
pursuant to the plan of reorganization.
    (3) Excess loss accounts. Negative adjustments under this section 
may exceed P's basis in its S or T stock. The resulting negative amount 
is P's excess loss account in its S or T stock. See Sec. 1.1502-19 for 
rules treating excess loss accounts as negative basis, and treating 
references to stock basis as including references to excess loss 
accounts.
    (4) Application of other rules of law. The rules for this section 
are in addition to other rules of law. See Sec. 1.1502-80(d) for the 
non-application of section 357(c) to P.
    (5) Examples. The rules of this paragraph (b) are illustrated by 
the following examples. For purposes of these examples, P, S, and T are 
domestic corporations, P and S file consolidated returns, P owns all of 
the only class of S stock, the P stock exchanged in the transaction 
satisfies the requirements of the applicable triangular reorganization 
provisions, and the facts set forth the only corporate activity.

    Example 1. Liabilities. (a) Facts. T has assets with an 
aggregate basis of $60 and fair market value of $100. T's assets are 
subject to $70 of liabilities. Pursuant to a plan, P forms S with $5 
of cash (which S retains), and T merges into S. In the merger, the T 
shareholders receive P stock worth $30 in exchange for their T 
stock. The transaction is a reorganization to which sections 368 
(a)(1)(A) and (a)(2)(D) apply.
    (b) Basis adjustment. Under Sec. 1.358-6, P adjusts its basis in 
the S stock as if P had acquired the T assets with a carryover basis 
under section 362 and transferred these assets to S in a transaction 
in which P determines its basis in the S stock under section 358. 
Under the rules of this section, the limitation described in 
Sec. 1.358-6(c)(1)(ii) does not apply. Thus, P adjusts its basis in 
the S stock by -$10 (the aggregate adjusted basis of T's assets 
decreased by the amount of liabilities to which the T assets are 
subject). Consequently, immediately after the reorganization, P has 
an excess loss account of $5 in its S stock.
    Example 2. Consideration not provided by P. (a) Facts. T has 
assets with an aggregate basis of $10 and fair market value of $100 
and no liabilities. S is an operating company with substantial 
assets that has been in existence for several years. P has a $5 
basis in its S stock. Pursuant to a plan, T merges into S and the T 
shareholders receive $70 of P stock provided by P pursuant to the 
plan of reorganization and $30 of cash provided by S in exchange for 
their T stock. The transaction is a reorganization to which sections 
368 (a)(1)(A) and (a)(2)(D) apply.
    (b) Basis adjustment. Under Sec. 1.358-6, P adjusts its basis in 
the S stock as if P had acquired the T assets with a carryover basis 
under section 362 and transferred these assets to S in a transaction 
in which P determines its basis in the S stock under section 358. 
Under the rules of this section, the limitation described in 
Sec. 1.358-6(d)(2) does not apply. Thus, P adjusts its basis in the 
S stock by -$20 (the aggregate adjusted basis of T's assets 
decreased by the fair market value of the consideration provided by 
S). Consequently, immediately after the reorganization, P has an 
excess loss account of $15 in its S stock.
    (c) Appreciated asset. The facts are the same as in paragraph 
(a) of this Example 2, except that in the reorganization S provides 
an asset with a $20 adjusted basis and $30 fair market value instead 
of $30 cash. The basis is adjusted in the same manner as in 
paragraph (b) of this Example 2. In addition, because S recognizes a 
$10 gain from the asset under section 1001, P's basis in its S stock 
is increased under Sec. 1.1502-32(b) by S's $10 gain. Consequently, 
immediately after the reorganization, P has an excess loss account 
of $5 in its S stock. (The results would be the same if the 
appreciated asset provided by S was P stock in which S recognized 
gain. See Sec. 1.1032-2(c)).
    Example 3. Reverse triangular merger. (a) Facts. T has assets 
with an aggregate basis of $60 and fair market value of $100. T's 
assets are subject to $70 of liabilities. S is an operating company 
with substantial assets that has been in existence for several 
years. P owns all of the only class of S stock. P has a $5 basis in 
its S stock. Pursuant to a plan, S merges into T with T surviving. 
In the merger, the T shareholders receive P stock provided by P 
pursuant to the plan worth $30 in exchange for their T stock. The 
transaction is a reorganization to which sections 368 (a)(1)(A) and 
(a)(2)(E) apply. Because S is a previously existing operating 
company with substantial assets, the transaction does not qualify as 
a reorganization under section 368(a)(1)(B).
    (b) Basis adjustment. Under Sec. 1.358-6, P adjusts its basis in 
the S stock as if T had merged into S in a forward triangular merger 
with S surviving. Thus, P adjusts its basis in the S stock as if P 
had acquired the T assets with a carryover basis under section 362 
and transferred these assets to S in a transaction in which P 
determines its basis in the S stock under section 358. Under the 
rules of this section, the limitation described in Sec. 1.358-
6(c)(1)(ii) does not apply. Thus, P adjusts its basis in the T stock 
by -$10 (the aggregate adjusted basis of T's assets decreased by the 
amount of liabilities to which the T assets are subject). 
Consequently, immediately after the reorganization, P has an excess 
loss account of $5 in its T stock.

    (c) Effective date. This section applies to reorganizations 
occurring on or after [INSERT THE DAY THE FINAL REGULATIONS ARE 
PUBLISHED IN THE FEDERAL IN THE FEDERAL REGISTER].
Margaret Milner Richardson,
Commissioner of Internal Revenue.
[FR Doc. 94-31287 Filed 12-22-94; 8:45 am]
BILLING CODE 4830-01-U