Rev. Rul. 74-79

Advice has been requested whether, under the circumstances described below, a corporation is engaged in the active conduct of a trade or business for purposes of section 355(b) of the Internal Revenue Code of 1954.

Corporation X has owned all of the stock of corporations M and N for over five years. M and N have each been engaged during this time in the active conduct of a business, M in the steel manufacturing business and N in the motor common carrier business. The stock of corporations O and P was acquired by X four years ago in a transaction in which gain was recognized. O has been engaged in the active conduct of a newspaper publication business for the preceding five years and P has been engaged in the active conduct of an automobile parts manufacturing business for the preceding five years. X has never directly engaged in any business activity and has no assets other than the stock of M, N, O, and P. The stock of M, N, O, and P are of approximately equal value.

X, for valid business reasons, wished to distribute all of the stock of N to the X shareholders in a transaction meeting the requirements of section 355 of the Code. However, such a distribution would not qualify under section 355(a) because the active business requirements of section 355(b) could not be satisfied. Under section 355(b)(1)(A) the distributing corporation, X, must itself be engaged after the distribution in the active conduct of a trade or business as that term is defined in section 355(b)(2). Under section 355(b)(2)(A) a corporation is treated as engaged in the active conduct of a trade or business only if it is directly engaged in the active conduct of a business or substantially all of its assets consists of stock and securities of corporations controlled by it which are so engaged. X is not directly engaged in the active conduct of any business and after a distribution of N stock, two-thirds of its assets would consist of stock of controlled corporations O and P which are not treated as engaged in the active conduct of a trade or business because control of these corporations was acquired within the five-year period ending on the date of distribution in a taxable transaction. See section 355(b)(2)(D). Furthermore, X would not qualify under section 355(b)(1)(B) (relating to a distributing corporation that has no assets other than stock in the controlled corporations that are engaged immediately after the distribution in the active conduct of a trade or business) because X owns stock, before the distribution, of three corporations, M, O, and P, which are not the controlled corporations, that is, corporations whose stock is to be distributed.

Therefore, X, with the intent of meeting the active trade or business requirements of section 355(b)(1)(A) of the Code by itself being directly engaged in the active conduct of a trade or business, liquidated M in a transaction in which no gain or loss was recognized to X or M pursuant to the provisions of sections 332 and 336, respectively. Immediately thereafter, X distributed all of the stock of N to the shareholders of X. At the time of the distribution X had no plan to sell or otherwise dispose of the assets of the business formerly conducted by M. X continued to engage in the active conduct of the steel manufacturing business acquired upon the complete liquidation of M.

Section 355(a)(1) of the Code provides for the nonrecognition of gain or loss to shareholders upon the distribution of the stock of a controlled corporation where, among other things, the requirements of section 355(b) are satisfied. For this purpose, section 368(c) defines the term "control" to mean ownership of at least 80 percent of the voting stock and 80 percent of the nonvoting stock of a corporation.

Section 355(b)(1)(A) of the Code requires that both the distributing and controlled corporation each be engaged immediately after the distribution in the active conduct of a trade or business.

Section 355(b)(2) of the Code defines those circumstances under which a corporation will be treated as engaged in the active conduct of a trade or business for purposes of section 355(b)(1). Section 355(b)(2) requires, in pertinent part, that the trade or business must have been conducted for at least a five-year period ending on the date of distribution and must not have been acquired during such period in a transaction in which gain or loss was recognized in whole or in part.

Although the business of M, which M had conducted for the five-year period, was acquired by X within such five-year period, it was not acquired in a transaction in which gain or loss was recognized. Accordingly, X is engaged immediately after the distribution in the active conduct of a trade or business within the meaning of section 355(b)(1)(A) of the Code.