Proposed regulations issued under Section 337(d)

Tax Hot Topics newsletterThe IRS has issued proposed regulations (REG-135671-17) to modify existing final regulations under Treas. Reg. Sec. 1.337(d)-3.

The current rules under Treas. Reg. § 1.337(d)-3 are intended to prevent corporate taxpayers from using a partnership to circumvent gain under Sections 311 or 336. Specifically, Treas. Reg. Sec. 1.337(d)-3T requires a “corporate partner,” a corporation that holds or acquires a partnership interest, to recognize gain related to a “Section 337(d) transaction.”

A Section 337(d) transaction is one that has the effect of an exchange by a corporate partner of its interest in appreciated property for an interest in its own stock that is owned, acquired or distributed by the underlying partnership. Thus, a Section 337(d) transaction may occur when: (i) a corporate partner contributes appreciated property to the partnership that owns corporate partner stock; (ii) the partnership acquires corporate partner stock; (iii) the partnership owns corporate partner stock and distributes appreciated property to a partner other than the corporate partner; (iv) the partnership distributes corporate partner stock to the corporate partner; or (v) the partnership agreement is amended to increase a corporate partner’s interest in its stock.

The proposed regulations modify the definition of “stock of a corporate partner” that may give rise to a Section 337(d) transaction. Under the current final regulations, stock of a corporate partner includes the corporate partner’s stock and other equity interests in the corporate partner including options and warrants and similar interests in a corporation that controls the corporate partner within the meaning of Section 304(c). Stock of the corporate partner may also include an interest in any entity to the extent that the value of the interest is attributable to the stock of a corporate partner. However, stock of a corporate partner does not include any stock or equity interest held or acquired by a partnership if all interest in the partnership’s capital and profits are held by members of an affiliated group (also known as the affiliated group exception).

The proposed regulations provide guidance on how to determine whether and the extent that the value of an interest in an entity is attributable to the stock of a corporate partner. Generally, the value of an interest in an entity is attributable to the stock of a corporate partner if either: (i) the corporate partner is in control of that entity; or (ii) the entity owns directly or indirectly 5% or more of the stock in the corporate partner determined by vote or value. The proposed regulations also provide that ownership of the stock of a corporate partner is determined with the attribution rules under Sections 318(a)(2) and (4) and propose to remove the affiliated group exception. The proposed regulations are effective when they become final regulations.

Jeff Borghino
Partner, Washington National Tax Office
T +1 202 521 1532

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