[Federal Register Volume 71, Number 17 (Thursday, January 26, 2006)]
[Rules and Regulations]
[Pages 4259-4263]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 06-588]



[[Page 4259]]

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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9242]
RIN 1545-BA06; 1545-BD76


Statutory Mergers and Consolidations

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations that define the term 
statutory merger or consolidation as that term is used in section 
368(a)(1)(A) of the Internal Revenue Code, concerning corporate 
reorganizations. These final regulations affect corporations engaging 
in statutory mergers and consolidations, and their shareholders.

DATES: Effective Date: These regulations are effective January 23, 
2006.

FOR FURTHER INFORMATION CONTACT: Richard M. Heinecke, at (202) 622-7930 
(not a toll free number).

SUPPLEMENTARY INFORMATION:

Background

    The Internal Revenue Code of 1986 (Code) provides for general 
nonrecognition treatment for reorganizations described in section 368 
of the Code. Section 368(a)(1)(A) provides that the term reorganization 
includes a statutory merger or consolidation. On January 24, 2003, the 
IRS and Treasury Department published temporary regulations (TD 9038) 
in the Federal Register (68 FR 3384) (the 2003 temporary regulations), 
along with a notice of proposed rulemaking by cross-reference to the 
temporary regulations (REG-126485-01) (the 2003 proposed regulations), 
defining statutory merger or consolidation. The 2003 temporary 
regulations generally provide that a statutory merger or consolidation 
is a transaction effected pursuant to the laws of the United States or 
a State or the District of Columbia, in which, as a result of the 
operation of such laws, all of the assets and liabilities of the target 
corporation are acquired by the acquiring corporation and the target 
corporation ceases its separate legal existence for all purposes. Under 
the 2003 temporary regulations, the merger of a target corporation into 
a limited liability company that is disregarded as a separate entity 
from the acquiring corporation for Federal income tax purposes may 
qualify as a statutory merger or consolidation.
    No public hearing regarding the 2003 proposed regulations was 
requested or held. Nonetheless, a number of comments were received.
    As described above, under the 2003 temporary regulations, a 
transaction can only qualify as a statutory merger or consolidation if 
the transaction is effected ``pursuant to the laws of the United 
States, or a State or the District of Columbia.'' Given that many 
foreign jurisdictions have merger or consolidation statutes that 
operate in material respects like those of the states, on January 5, 
2005, the IRS and Treasury Department proposed regulations (the 2005 
proposed regulations) containing a revised definition of statutory 
merger or consolidation that allows transactions effected pursuant to 
the statutes of a foreign jurisdiction or of a United States possession 
to qualify as a statutory merger or consolidation (70 FR 746). 
Simultaneously with the publication of the 2005 proposed regulations, 
the IRS and Treasury Department published a notice of proposed 
rulemaking proposing amendments to the regulations under sections 358, 
367, and 884 to reflect that, under the 2005 proposed regulations, a 
transaction involving a foreign entity and a transaction effected 
pursuant to the laws of a foreign jurisdiction may qualify as a 
statutory merger or consolidation (the foreign regulations).

Explanation of Provisions

    The IRS and Treasury Department have received comments regarding 
the 2005 proposed regulations and the foreign regulations. This 
Treasury decision adopts the 2005 proposed regulations as final 
regulations, with certain technical changes. The foreign regulations 
are adopted as final regulations in a separate Treasury decision. The 
following sections describe a number of the most significant comments 
received with respect to the 2003 proposed regulations and the 2005 
proposed regulations and the extent to which they have been adopted in 
the final regulations.

A. State Law Conversions

    A number of commentators have questioned whether under the 2003 
temporary regulations a transaction involving a state law conversion of 
a corporation into a limited liability company that is disregarded as 
an entity separate from its owner for Federal income tax purposes can 
qualify as a statutory merger or consolidation under section 
368(a)(1)(A). For example, suppose A, a corporation, acquires all of 
the stock of T, a corporation, in exchange for consideration 50 percent 
of which is A voting stock and 50 percent of which is cash. As part of 
an integrated transaction, immediately after the stock acquisition, T 
files a form with the secretary of state of its state of organization 
to convert its form of organization from a corporation to a limited 
liability company. Some commentators have suggested that the conversion 
of T into a single member limited liability company disregarded as an 
entity separate from A should be treated like the merger of T into a 
pre-existing single member limited liability company that is 
disregarded as an entity separate from A. In the latter case, the 
overall transaction may qualify as a statutory merger or consolidation 
of T into A under the 2003 temporary regulations. Commentators have 
suggested that there is no policy reason to require T to actually merge 
into the entity that is disregarded as separate from A for A's 
acquisition of the T assets to qualify as a statutory merger or 
consolidation. Although the conversion does not involve the fusion 
under state or local law of a target corporation into a pre-existing 
entity, it is similar to a statutory merger in that it accomplishes 
simultaneously the transfer for Federal income tax purposes of all of 
the assets of the target corporation to the acquiring corporation and 
the elimination for Federal income tax purposes of the target 
corporation as a corporation.
    A similar question arises when the target corporation is an 
eligible entity under Sec.  301.7701-3(a), rather than a per se 
corporation, and the status of the target for Federal income tax 
purposes is changed through an Entity Classification Election under 
Sec.  301.7701-3 rather than through a conversion under state law. In 
this case, no action under state or local law effects the transfer of 
the assets of the target corporation to the acquiring corporation. 
Nevertheless, the election also accomplishes the simultaneous transfer 
for Federal income tax purposes of all of the assets of the target 
corporation to the acquiring corporation and the elimination for 
Federal income tax purposes of the target corporation as a corporation.
    As described above, the 2003 temporary regulations provide that a 
transaction can only qualify as a statutory merger or consolidation if 
the target corporation ceases its separate legal existence for all 
purposes. The final regulations retain this requirement. In a 
conversion, the target corporation's legal existence does not cease to 
exist under state law. Its legal existence continues in a different 
form. Therefore, a stock acquisition of a target corporation followed 
by the conversion of the target corporation from a

[[Page 4260]]

corporation to a limited liability company under state law cannot 
qualify as a statutory merger or consolidation under these final 
regulations. Consequently, pending further consideration of this issue, 
these final regulations clarify that such an acquisition cannot qualify 
as a statutory merger or consolidation.
    Nevertheless, the IRS and Treasury Department are considering 
whether a stock acquisition followed by a conversion of the acquired 
corporation to an entity disregarded as separate from its corporate 
owner, and whether a stock acquisition followed by a change in the 
entity classification of the acquired entity from a corporation to an 
entity disregarded as separate from its corporate owner, should be 
permitted to qualify as a statutory merger or consolidation. The IRS 
and Treasury Department are interested in receiving comments in this 
regard. In addition, the IRS and Treasury Department are interested in 
comments regarding what implications, if any, permitting these two-step 
transactions to qualify as a statutory merger or consolidation would 
have on Revenue Ruling 67-274 (1967-2 C.B. 141) (ruling that an 
acquisition of stock of a target corporation followed by a liquidation 
of the target corporation qualified as a reorganization under section 
368(a)(1)(C)) and Revenue Ruling 72-405 (1972-2 C.B. 217) (ruling that 
a forward triangular merger of a subsidiary of an acquiring corporation 
followed by a liquidation of the subsidiary qualified as a 
reorganization under section 368(a)(1)(C)).

B. Existence and Composition of the Transferee Unit

    The 2003 proposed regulations generally require that, in order for 
a transaction to qualify as a statutory merger or consolidation, all of 
the assets and liabilities of each member of the transferor combining 
unit become the assets and liabilities of one or more members of one 
other combining unit (the transferee unit). For this purpose, a 
combining unit is a combining entity and all of its disregarded 
entities and a combining entity is a business entity that is a 
corporation (as defined in Sec.  301.7701-2(b)) that is not a 
disregarded entity). As described above, the definition of statutory 
merger or consolidation allows for the possibility that a merger of a 
corporation into an entity disregarded as an entity separate from an 
acquiring corporation could qualify as a statutory merger or 
consolidation.
    One commentator stated that while it is clear that the existence 
and composition of the transferor unit are tested only immediately 
before the transaction and that the existence and composition of the 
transferee unit are tested immediately after the transaction, it is not 
clear whether the existence and composition of the transferee unit are 
also tested immediately prior to the transaction. This ambiguity, the 
commentator argued, creates uncertainty as to whether the following 
transaction can qualify as a statutory merger or consolidation: A and 
T, both corporations, together own all of the membership interests in 
P, a limited liability company that is treated as a partnership for 
Federal income tax purposes. T merges into P. In the merger, the 
shareholders of T exchange their T stock for A stock. As a result of 
the merger, P becomes an entity that is disregarded as an entity 
separate from A. If the existence and composition of the transferee 
unit were tested only after the transaction, the transaction could 
qualify as a statutory merger or consolidation. However, if the 
existence and composition of the transferee unit were tested both 
before and after the transaction, the transaction would not qualify for 
tax-free treatment because, before the merger, P is not a member of the 
transferee unit because it is not treated as an entity that is 
disregarded as an entity separate from A for Federal income tax 
purposes.
    The IRS and Treasury Department believe that the transaction 
described should qualify as a statutory merger or consolidation. 
Accordingly, these final regulations include an example that 
illustrates that the existence and composition of the transferee unit 
is not tested immediately prior to the transaction but instead is only 
tested immediately after the transaction. Therefore, the merger of T 
into P may qualify as a statutory merger or consolidation. Moreover, A 
would be a party to the reorganization, permitting nonrecognition under 
the operative reorganization provisions of subchapter C of the Code.
    Treating the merger of T into P as a reorganization raises 
questions as to the tax consequences of the transaction to the parties, 
including whether gain or loss may be recognized under the partnership 
rules of subchapter K as a result of the termination of P. Similar 
questions are raised in a merger of T directly into A that qualifies as 
a reorganization where, in the transaction, P becomes disregarded as an 
entity separate from A for Federal income tax purposes. The IRS and 
Treasury Department are considering the tax consequences in these 
cases, including the extent to which the principles of Revenue Ruling 
99-6 apply in these situations and, if they do apply, their 
consequences. The IRS and Treasury Department request comments in this 
regard.

C. Consolidations and Amalgamations

    Questions have arisen regarding the application of the definition 
of statutory merger or consolidation to transactions that are effected 
under state law consolidation statutes and foreign law amalgamation 
statutes. In a state law consolidation and a foreign law amalgamation, 
typically, two or more corporations combine and continue in the 
resulting entity, which is a new corporation that is formed in the 
consolidation transaction. Some commentators have asked whether a 
consolidation or an amalgamation can qualify as a statutory merger or 
consolidation under section 368(a)(1)(A) if effected pursuant to a law 
that provides that the consolidating or amalgamating corporations 
continue as one corporation in the resulting corporation. Those 
commentators are concerned that, because the existence of each of the 
consolidating corporations or amalgamating corporations continues in 
the resulting corporation, the requirement that the transferee 
corporation cease its separate legal existence for all purposes may not 
be satisfied.
    The IRS and Treasury Department believe that the fact that the 
existence of the consolidating or amalgamating corporations continues 
in the resulting corporation will not prevent a consolidation from 
qualifying as a statutory merger or consolidation under the 2003 
temporary regulations. The 2003 temporary regulations require that the 
separate legal existence of the target corporation ceases. In a 
consolidation or an amalgamation, even if the governing law provides 
that the existence of the consolidating or amalgamating entities 
continues in the resulting corporation, the separate legal existence of 
the consolidating or amalgamating entities does in fact cease. 
Therefore, the IRS and Treasury Department do not believe that the fact 
that the existence of the consolidating or amalgamating entities 
continues in the resulting corporation prevents a consolidation or an 
amalgamation from qualifying as a statutory merger or consolidation.
    Other commentators have questioned whether a consolidation or 
amalgamation of two operating corporations can involve a reorganization 
under section 368(a)(1)(F) with respect to one and a reorganization 
under section 368(a)(1)(A) with respect to the other. For example, 
suppose that X and Y,

[[Page 4261]]

both operating corporations, consolidate pursuant to state law. In the 
consolidation, X and Y result in Z, a new corporation. The shareholders 
of X and Y surrender their X and Y stock, respectively, in exchange for 
Z stock. Some commentators have suggested that the consolidation could 
be viewed as a transfer by X of its assets and liabilities to Z in a 
reorganization under section 368(a)(1)(F) followed by a merger of Y 
into Z in a reorganization under section 368(a)(1)(A). Alternatively, 
it could be viewed as a transfer by Y of its assets and liabilities to 
Z in a reorganization under section 368(a)(1)(F) followed by a merger 
of X into Z in a reorganization under section 368(a)(1)(A). The IRS and 
Treasury Department intend to further study this issue in connection 
with their separate study of reorganizations under section 
368(a)(1)(F).
    Questions have also arisen regarding the application of the 
definition of statutory merger or consolidation to triangular 
transactions involving consolidations and amalgamations. For example, 
suppose that A seeks to acquire both X and Y, each in exchange for 
consideration that is 50 percent A voting stock and 50 percent cash. 
Under state law, X and Y consolidate into Z, a corporation that results 
from the acquisition transaction as a wholly owned subsidiary of A. The 
IRS and Treasury Department believe that a triangular consolidation or 
amalgamation should be tested under the reorganization rules as a 
forward triangular merger of each of the consolidating or amalgamating 
corporations into a wholly owned subsidiary of the parent corporation. 
Such a transaction might qualify as a statutory merger or consolidation 
pursuant to the rules of section 368(a)(2)(D). The IRS and Treasury 
Department recognize that in triangular consolidations and triangular 
amalgamations, the corporation the stock of which is used in the 
transaction (A) does not control the acquiring corporation (Z) 
immediately before the transaction. Nonetheless, the IRS and Treasury 
Department do not believe that section 368(a)(2)(D) requires the 
corporation the stock of which is used in the transaction to control 
the acquiring corporation immediately prior to the transaction and that 
such corporation's control of the acquiring corporation immediately 
after the transaction is sufficient to satisfy that requirement of 
section 368(a)(2)(D). Therefore, these final regulations include an 
example that illustrates the application of section 368(a)(2)(D) to a 
triangular amalgamation.

Special Analysis

    It has been determined that this Treasury decision is not a 
significant regulatory action as defined in Executive Order 12866. 
Therefore, a regulatory assessment is not required. It also has been 
determined that section 553(b) of the Administrative Procedure Act (5 
U.S.C. chapter 5) does not apply to these regulations and, because 
these regulations do not impose a collection of information on small 
entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not 
apply. Therefore, a Regulatory Flexibility Analysis is not required. 
Pursuant to section 7805(f) of the Code, the proposed regulations 
preceding these regulations were submitted to the Chief Counsel for 
Advocacy of the Small Business Administration for comment on their 
impact on small business.

Drafting Information

    The principal author of these final regulations is Richard M. 
Heinecke of the Office of Associate 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.

Adoption of Amendments to the Regulations

0
Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read, in 
part, as follows:

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

0
Par. 2. Section 1.368-2 is amended by revising paragraph (b)(1) to read 
as follows:


Sec.  1.368-2  Definition of terms.

* * * * *
    (b)(1)(i) Definitions. For purposes of this paragraph (b)(1), the 
following terms shall have the following meanings:
    (A) Disregarded entity. A disregarded entity is a business entity 
(as defined in Sec.  301.7701-2(a) of this chapter) that is disregarded 
as an entity separate from its owner for Federal income tax purposes. 
Examples of disregarded entities include a domestic single member 
limited liability company that does not elect to be classified as a 
corporation for Federal income tax purposes, a corporation (as defined 
in Sec.  301.7701-2(b) of this chapter) that is a qualified REIT 
subsidiary (within the meaning of section 856(i)(2)), and a corporation 
that is a qualified subchapter S subsidiary (within the meaning of 
section 1361(b)(3)(B)).
    (B) Combining entity. A combining entity is a business entity that 
is a corporation (as defined in Sec.  301.7701-2(b) of this chapter) 
that is not a disregarded entity.
    (C) Combining unit. A combining unit is composed solely of a 
combining entity and all disregarded entities, if any, the assets of 
which are treated as owned by such combining entity for Federal income 
tax purposes.
    (ii) Statutory merger or consolidation generally. For purposes of 
section 368(a)(1)(A), a statutory merger or consolidation is a 
transaction effected pursuant to the statute or statutes necessary to 
effect the merger or consolidation, in which transaction, as a result 
of the operation of such statute or statutes, the following events 
occur simultaneously at the effective time of the transaction--
    (A) All of the assets (other than those distributed in the 
transaction) and liabilities (except to the extent such liabilities are 
satisfied or discharged in the transaction or are nonrecourse 
liabilities to which assets distributed in the transaction are subject) 
of each member of one or more combining units (each a transferor unit) 
become the assets and liabilities of one or more members of one other 
combining unit (the transferee unit); and
    (B) The combining entity of each transferor unit ceases its 
separate legal existence for all purposes; provided, however, that this 
requirement will be satisfied even if, under applicable law, after the 
effective time of the transaction, the combining entity of the 
transferor unit (or its officers, directors, or agents) may act or be 
acted against, or a member of the transferee unit (or its officers, 
directors, or agents) may act or be acted against in the name of the 
combining entity of the transferor unit, provided that such actions 
relate to assets or obligations of the combining entity of the 
transferor unit that arose, or relate to activities engaged in by such 
entity, prior to the effective time of the transaction, and such 
actions are not inconsistent with the requirements of paragraph 
(b)(1)(ii)(A) of this section.
    (iii) Examples. The following examples illustrate the rules of 
paragraph (b)(1) of this section. In each of the examples, except as 
otherwise provided, each of R, V, Y, and Z is a C corporation. X is a 
domestic limited liability company. Except as otherwise provided, X is 
wholly owned by Y and is disregarded as an entity separate from

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Y for Federal income tax purposes. The examples are as follows:

    Example 1. Divisive transaction pursuant to a merger statute. 
(i) Facts. Under State W law, Z transfers some of its assets and 
liabilities to Y, retains the remainder of its assets and 
liabilities, and remains in existence for Federal income tax 
purposes following the transaction. The transaction qualifies as a 
merger under State W corporate law.
    (ii) Analysis. The transaction does not satisfy the requirements 
of paragraph (b)(1)(ii)(A) of this section because all of the assets 
and liabilities of Z, the combining entity of the transferor unit, 
do not become the assets and liabilities of Y, the combining entity 
and sole member of the transferee unit. In addition, the transaction 
does not satisfy the requirements of paragraph (b)(1)(ii)(B) of this 
section because the separate legal existence of Z does not cease for 
all purposes. Accordingly, the transaction does not qualify as a 
statutory merger or consolidation under section 368(a)(1)(A).
    Example 2. Merger of a target corporation into a disregarded 
entity in exchange for stock of the owner. (i) Facts. Under State W 
law, Z merges into X. Pursuant to such law, the following events 
occur simultaneously at the effective time of the transaction: all 
of the assets and liabilities of Z become the assets and liabilities 
of X and Z's separate legal existence ceases for all purposes. In 
the merger, the Z shareholders exchange their stock of Z for stock 
of Y.
    (ii) Analysis. The transaction satisfies the requirements of 
paragraph (b)(1)(ii) of this section because the transaction is 
effected pursuant to State W law and the following events occur 
simultaneously at the effective time of the transaction: all of the 
assets and liabilities of Z, the combining entity and sole member of 
the transferor unit, become the assets and liabilities of one or 
more members of the transferee unit that is comprised of Y, the 
combining entity of the transferee unit, and X, a disregarded entity 
the assets of which Y is treated as owning for Federal income tax 
purposes, and Z ceases its separate legal existence for all 
purposes. Accordingly, the transaction qualifies as a statutory 
merger or consolidation for purposes of section 368(a)(1)(A).
    Example 3. Merger of a target S corporation that owns a QSub 
into a disregarded entity. (i) Facts. The facts are the same as in 
Example 2, except that Z is an S corporation and owns all of the 
stock of U, a QSub.
    (ii) Analysis. The deemed formation by Z of U pursuant to Sec.  
1.1361-5(b)(1) (as a consequence of the termination of U's QSub 
election) is disregarded for Federal income tax purposes. The 
transaction is treated as a transfer of the assets of U to X, 
followed by X's transfer of these assets to U in exchange for stock 
of U. See Sec.  1.1361-5(b)(3) Example 9. The transaction will, 
therefore, satisfy the requirements of paragraph (b)(1)(ii) of this 
section because the transaction is effected pursuant to State W law 
and the following events occur simultaneously at the effective time 
of the transaction: all of the assets and liabilities of Z and U, 
the sole members of the transferor unit, become the assets and 
liabilities of one or more members of the transferee unit that is 
comprised of Y, the combining entity of the transferee unit, and X, 
a disregarded entity the assets of which Y is treated as owning for 
Federal income tax purposes, and Z ceases its separate legal 
existence for all purposes. Moreover, the deemed transfer of the 
assets of U in exchange for U stock does not cause the transaction 
to fail to qualify as a statutory merger or consolidation. See Sec.  
368(a)(2)(C). Accordingly, the transaction qualifies as a statutory 
merger or consolidation for purposes of section 368(a)(1)(A).
    Example 4. Triangular merger of a target corporation into a 
disregarded entity. (i) Facts. The facts are the same as in Example 
2, except that V owns 100 percent of the outstanding stock of Y and, 
in the merger of Z into X, the Z shareholders exchange their stock 
of Z for stock of V. In the transaction, Z transfers substantially 
all of its properties to X.
    (ii) Analysis. The transaction is not prevented from qualifying 
as a statutory merger or consolidation under section 368(a)(1)(A), 
provided the requirements of section 368(a)(2)(D) are satisfied. 
Because the assets of X are treated for Federal income tax purposes 
as the assets of Y, Y will be treated as acquiring substantially all 
of the properties of Z in the merger for purposes of determining 
whether the merger satisfies the requirements of section 
368(a)(2)(D). As a result, the Z shareholders that receive stock of 
V will be treated as receiving stock of a corporation that is in 
control of Y, the combining entity of the transferee unit that is 
the acquiring corporation for purposes of section 368(a)(2)(D). 
Accordingly, the merger will satisfy the requirements of section 
368(a)(2)(D).
    Example 5. Merger of a target corporation into a disregarded 
entity owned by a partnership. (i) Facts. The facts are the same as 
in Example 2, except that Y is organized as a partnership under the 
laws of State W and is classified as a partnership for Federal 
income tax purposes.
    (ii) Analysis. The transaction does not satisfy the requirements 
of paragraph (b)(1)(ii)(A) of this section. All of the assets and 
liabilities of Z, the combining entity and sole member of the 
transferor unit, do not become the assets and liabilities of one or 
more members of a transferee unit because neither X nor Y qualifies 
as a combining entity. Accordingly, the transaction cannot qualify 
as a statutory merger or consolidation for purposes of section 
368(a)(1)(A).
    Example 6. Merger of a disregarded entity into a corporation. 
(i) Facts. Under State W law, X merges into Z. Pursuant to such law, 
the following events occur simultaneously at the effective time of 
the transaction: all of the assets and liabilities of X (but not the 
assets and liabilities of Y other than those of X) become the assets 
and liabilities of Z and X's separate legal existence ceases for all 
purposes.
    (ii) Analysis. The transaction does not satisfy the requirements 
of paragraph (b)(1)(ii)(A) of this section because all of the assets 
and liabilities of a transferor unit do not become the assets and 
liabilities of one or more members of the transferee unit. The 
transaction also does not satisfy the requirements of paragraph 
(b)(1)(ii)(B) of this section because X does not qualify as a 
combining entity. Accordingly, the transaction cannot qualify as a 
statutory merger or consolidation for purposes of section 
368(a)(1)(A).
    Example 7. Merger of a corporation into a disregarded entity in 
exchange for interests in the disregarded entity. (i) Facts. Under 
State W law, Z merges into X. Pursuant to such law, the following 
events occur simultaneously at the effective time of the 
transaction: all of the assets and liabilities of Z become the 
assets and liabilities of X and Z's separate legal existence ceases 
for all purposes. In the merger of Z into X, the Z shareholders 
exchange their stock of Z for interests in X so that, immediately 
after the merger, X is not disregarded as an entity separate from Y 
for Federal income tax purposes. Following the merger, pursuant to 
Sec.  301.7701-3(b)(1)(i) of this chapter, X is classified as a 
partnership for Federal income tax purposes.
    (ii) Analysis. The transaction does not satisfy the requirements 
of paragraph (b)(1)(ii)(A) of this section because immediately after 
the merger X is not disregarded as an entity separate from Y and, 
consequently, all of the assets and liabilities of Z, the combining 
entity of the transferor unit, do not become the assets and 
liabilities of one or more members of a transferee unit. 
Accordingly, the transaction cannot qualify as a statutory merger or 
consolidation for purposes of section 368(a)(1)(A).
    Example 8. Merger transaction preceded by distribution. (i) 
Facts. Z operates two unrelated businesses, Business P and Business 
Q, each of which represents 50 percent of the value of the assets of 
Z. Y desires to acquire and continue operating Business P, but does 
not want to acquire Business Q. Pursuant to a single plan, Z sells 
Business Q for cash to parties unrelated to Z and Y in a taxable 
transaction, and then distributes the proceeds of the sale pro rata 
to its shareholders. Then, pursuant to State W law, Z merges into Y. 
Pursuant to such law, the following events occur simultaneously at 
the effective time of the transaction: all of the assets and 
liabilities of Z related to Business P become the assets and 
liabilities of Y and Z's separate legal existence ceases for all 
purposes. In the merger, the Z shareholders exchange their Z stock 
for Y stock.
    (ii) Analysis. The transaction satisfies the requirements of 
paragraph (b)(1)(ii) of this section because the transaction is 
effected pursuant to State W law and the following events occur 
simultaneously at the effective time of the transaction: all of the 
assets and liabilities of Z, the combining entity and sole member of 
the transeferor unit, become the assets and liabilities of Y, the 
combining entity and sole member of the transferee unit, and Z 
ceases its separate legal existence for all purposes. Accordingly, 
the transaction qualifies as a statutory merger or consolidation for 
purposes of section 368(a)(1)(A).
    Example 9. State law conversion of target corporation into a 
limited liability company. (i) Facts. Y acquires the stock of V from 
the V shareholders in exchange for consideration

[[Page 4263]]

that consists of 50 percent voting stock of Y and 50 percent cash. 
Immediately after the stock acquisition, V files the necessary 
documents to convert from a corporation to a limited liability 
company under State W law. Y's acquisition of the stock of V and the 
conversion of V to a limited liability company are steps in a single 
integrated acquisition by Y of the assets of V.
    (ii) Analysis. The acquisition by Y of the assets of V does not 
satisfy the requirements of paragraph (b)(1)(ii)(B) of this section 
because V, the combining entity of the transferor unit, does not 
cease its separate legal existence. Although V is an entity 
disregarded from its owner for Federal income tax purposes, it 
continues to exist as a juridical entity after the conversion. 
Accordingly, Y's acquisition of the assets of V does not qualify as 
a statutory merger or consolidation for purposes of section 
368(a)(1)(A).
    Example 10. Dissolution of target corporation. (i) Facts. Y 
acquires the stock of Z from the Z shareholders in exchange for 
consideration that consists of 50 percent voting stock of Y and 50 
percent cash. Immediately after the stock acquisition, Z files a 
certificate of dissolution pursuant to State W law and commences 
winding up its activities. Under State W dissolution law, ownership 
and title to Z's assets does not automatically vest in Y upon 
dissolution. Instead, Z transfers assets to its creditors in 
satisfaction of its liabilities and transfers its remaining assets 
to Y in the liquidation stage of the dissolution. Y's acquisition of 
the stock of Z and the dissolution of Z are steps in a single 
integrated acquisition by Y of the assets of Z.
    (ii) Analysis. The acquisition by Y of the assets of Z does not 
satisfy the requirements of paragraph (b)(1)(ii) of this section 
because Y does not acquire all of the assets of Z as a result of Z 
filing the certificate of dissolution or simultaneously with Z 
ceasing its separate legal existence. Instead, Y acquires the assets 
of Z by reason of Z's transfer of its assets to Y. Accordingly, Y's 
acquisition of the assets of Z does not qualify as a statutory 
merger or consolidation for purposes of section 368(a)(1)(A).
    Example 11. Merger of corporate partner into a partnership. (i) 
Facts. Y owns an interest in X, an entity classified as a 
partnership for Federal income tax purposes, that represents a 60 
percent capital and profits interest in X. Z owns an interest in X 
that represents a 40 percent capital and profits interest. Under 
State W law, Z merges into X. Pursuant to such law, the following 
events occur simultaneously at the effective time of the 
transaction: all of the assets and liabilities of Z become the 
assets and liabilities of X and Z ceases its separate legal 
existence for all purposes. In the merger, the Z shareholders 
exchange their stock of Z for stock of Y. As a result of the merger, 
X becomes an entity that is disregarded as an entity separate from Y 
for Federal income tax purposes.
    (ii) Analysis. The transaction satisfies the requirements of 
paragraph (b)(1)(ii) of this section because the transaction is 
effected pursuant to State W law and the following events occur 
simultaneously at the effective time of the transaction: all of the 
assets and liabilities of Z, the combining entity and sole member of 
the transferor unit, become the assets and liabilities of one or 
more members of the transferee unit that is comprised of Y, the 
combining entity of the transferee unit, and X, a disregarded entity 
the assets of which Y is treated as owning for Federal income tax 
purposes immediately after the transaction, and Z ceases its 
separate legal existence for all purposes. Accordingly, the 
transaction qualifies as a statutory merger or consolidation for 
purposes of section 368(a)(1)(A).
    Example 12. State law consolidation. (i) Facts. Under State W 
law, Z and V consolidate. Pursuant to such law, the following events 
occur simultaneously at the effective time of the transaction: all 
of the assets and liabilities of Z and V become the assets and 
liabilities of Y, an entity that is created in the transaction, and 
the existence of Z and V continues in Y. In the consolidation, the Z 
shareholders and the V shareholders exchange their stock of Z and V, 
respectively, for stock of Y.
    (ii) Analysis. With respect to each of Z and V, the transaction 
satisfies the requirements of paragraph (b)(1)(ii) of this section 
because the transaction is effected pursuant to State W law and the 
following events occur simultaneously at the effective time of the 
transaction: all of the assets and liabilities of Z and V, 
respectively, each of which is the combining entity of a transferor 
unit, become the assets and liabilities of Y, the combining entity 
and sole member of the transferee unit, and Z and V each ceases its 
separate legal existence for all purposes. Accordingly, the 
transaction qualifies as the statutory merger or consolidation of 
each of Z and V into Y for purposes of section 368(a)(1)(A).
    Example 13. Transaction effected pursuant to foreign statutes. 
(i) Facts. Z and Y are entities organized under the laws of Country 
Q and classified as corporations for Federal income tax purposes. Z 
and Y combine. Pursuant to statutes of Country Q the following 
events occur simultaneously: all of the assets and liabilities of Z 
become the assets and liabilities of Y and Z's separate legal 
existence ceases for all purposes.
    (ii) Analysis. The transaction satisfies the requirements of 
paragraph (b)(1)(ii) of this section because the transaction is 
effected pursuant to statutes of Country Q and the following events 
occur simultaneously at the effective time of the transaction: all 
of the assets and liabilities of Z, the combining entity of the 
transferor unit, become the assets and liabilities of Y, the 
combining entity and sole member of the transferee unit, and Z 
ceases its separate legal existence for all purposes. Accordingly, 
the transaction qualifies as a statutory merger or consolidation for 
purposes of section 368(a)(1)(A).
    Example 14. Foreign law amalgamation using parent stock. (i) 
Facts. Z and V are entities organized under the laws of Country Q 
and classified as corporations for Federal income tax purposes. Z 
and V amalgamate. Pursuant to statutes of Country Q, the following 
events occur simultaneously: all the assets and liabilities of Z and 
V become the assets and liabilities of R, an entity that is created 
in the transaction and that is wholly owned by Y immediately after 
the transaction, and Z's and V's separate legal existences cease for 
all purposes. In the transaction, the Z and V shareholders exchange 
their Z and V stock, respectively, for stock of Y.
    (ii) Analysis. With respect to each of Z and V, the transaction 
satisfies the requirements of paragraph (b)(1)(ii) of this section 
because the transaction is effected pursuant to Country Q law and 
the following events occur simultaneously at the effective time of 
the transaction: all of the assets and liabilities of Z and V, 
respectively, each of which is the combining entity of a transferor 
unit, become the assets and liabilities of R, the combining entity 
and sole member of the transferee unit, with regard to each of the 
above transfers, and Z and V each ceases its separate legal 
existence for all purposes. Because Y is in control of R immediately 
after the transaction, the Z shareholders and the V shareholders 
will be treated as receiving stock of a corporation that is in 
control of R, the combining entity of the transferee unit that is 
the acquiring corporation for purposes of section 368(a)(2)(D). 
Accordingly, the transaction qualifies as the statutory merger or 
consolidation of each of Z and V into R, a corporation controlled by 
Y, and is a reorganization under section 368(a)(1)(A) by reason of 
section 368(a)(2)(D).
    (v) Effective date. This paragraph (b)(1) applies to transactions 
occurring on or after January 23, 2006. For rules regarding statutory 
mergers or consolidation occurring before January 23, 2006, see Sec.  
1.368-2T as contained in 26 CFR part 1, revised April 1, 2005, and 
Sec.  1.368-2(b)(1) as in effect before January 24, 2003 (see 26 CFR 
part 1, revised April 1, 2002).
* * * * *


Sec.  1.368-2T  [Removed]

0
Par. 3. Section 1.368-2T is removed.

Mark E. Matthews,
Deputy Commissioner for Services and Enforcement.
    Approved: January 17, 2006.
Eric Solomon,
Acting Deputy Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 06-588 Filed 1-23-06; 11:43 am]
BILLING CODE 4830-01-P