Close
Close

IRS issues revenue ruling regarding tax treatment of a triple-drop-and-check transaction

RFP
Tax Hot TopicsTax Hot Topics
On May 5, the IRS issued a revenue ruling (Rev. Rul. 2015-10) along with Rev. Rul. 2015-09, which held that three successive contributions made by a limited liability company (LLC) to each of three subsidiaries in a vertical chain — followed by a check-the-box election to treat the LLC, which was classified as an association, as a disregarded entity — is more properly characterized under step transaction principles as two Section 351 transactions followed by a reorganization under Section 368(a)(1)(D).   

In Rev. Rul. 2015-10, a domestic corporation (P) owned all the outstanding interests in a limited liability company that was treated as an association and taxed as an LLC and all the outstanding stock of a domestic corporation (S1). S1 owned all the stock of a domestic corporation (S2), and S2 owned all the stock of a domestic corporation (S3). S3, in turn, owned all the stock of a domestic corporation (S4). P, S1, S2 and S3 were holding companies. For valid business purposes and as part of a plan, P, S1, S2, and S3 entered into the following transactions:

  • P transferred all of the interests in LLC to S1 in exchange for additional shares of voting common stock of S1 (the first drop).
  • S1 transferred all of the interests in LLC to S2 in exchange for additional shares of voting common stock of S2 (the second drop).
  • S2 transferred all of the interests in LLC to S3 in exchange for additional shares of voting common stock of S3 (the third drop).
  • LLC made an election under Treas. Reg. Sec. 301.7701-3(c) to be disregarded as an entity separate from its owner, effective no sooner than one day after the third drop (the check).  

A transfer of property may be treated as a Section 351 transaction even if it is followed by subsequent transfers of the property as part of a prearranged, integrated plan. (For example, see Rev. Rul. 77-449 and Rev. Rul. 83-34.) Under step transaction principles, however, a transfer of property that otherwise meets the definition of a Section 351 transaction won’t qualify under Section 351 if a different treatment is warranted to reflect the substance of the transaction as a whole. (For example, see Rev. Rul. 54-96 and Rev. Rul. 70-140.)

The IRS ruled that the first drop and the second drop satisfied the formal requirements of Section 351 and that an analysis of the transaction as a whole doesn’t dictate that the steps should be treated other than in accordance with their form, to reflect the substance of the transaction. The IRS ruled that the third drop and the check, on the other hand, are more properly characterized under step transaction principles as a reorganization under Section 368(a)(1)(D), rather than a Section 351 transaction followed by a Section 332 liquidation.     

Contacts
Andy Cordonnier
+1 202 521 1502
andy.cordonnier@us.gt.com

Bryan Keith
+1 202 861 4116
bryan.keith@us.gt.com

Tax professional standards statement
This document supports Grant Thornton LLP’s marketing of professional services and is not written tax advice directed at the particular facts and circumstances of any person. If you are interested in the subject of this document, we encourage you to contact us or an independent tax professional to discuss the potential application to your particular situation. Nothing herein shall be construed as imposing a limitation on any person from disclosing the tax treatment or tax structure of any matter addressed herein. To the extent this document may be considered to contain written tax advice, any written advice contained in, forwarded with or attached to this document is not intended by Grant Thornton LLP to be used, and cannot be used, by any person for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

The information contained herein is general in nature and is based on authorities that are subject to change. It is not, and should not be construed as, accounting, legal or tax advice provided by Grant Thornton LLP to the reader. This material may not be applicable to, or suitable for, the reader’s specific circumstances or needs and may require consideration of tax and nontax factors not described herein. Contact Grant Thornton LLP or other tax professionals prior to taking any action based upon this information. Changes in tax laws or other factors could affect, on a prospective or retroactive basis, the information contained herein; Grant Thornton LLP assumes no obligation to inform the reader of any such changes. All references to “Section,” “Sec.,” or “§” refer to the Internal Revenue Code of 1986, as amended.