Final Regs on Stock Transfers Between Consolidated Group Members Published

 [4830-01]

 ACTION: Temporary and final regulations.

 SUMMARY: This document contains temporary and final regulations under section 1502 of the Internal Revenue Code of 1986, as amended, providing that section 304 does not apply to acquisitions of the stock of a corporation by one member of a consolidated group from another member and providing special restoration rules for deferred gain that results on an acquisition of the stock of a subsidiary member of a consolidated group by one member from another member.

 DATES: The regulations are effective on July 24, 1991 and apply to an acquisition of stock of a corporation in an intercompany transaction occurring on or after July 24, 1991.

 FOR FURTHER INFORMATION CONTACT: Brendan P. O'Hara at telephone (202) 566-2455 (not a toll-free number).

SUPPLEMENTARY INFORMATION:

BACKGROUND

This document contains revisions to section 1.1502-80 of Income Tax Regulations (26 CFR part 1) under section 1502 of the Internal Revenue Code of 1986, as amended. Proposed regulations were filed on July 24, 1991 and published on July 25, 1991 (56 FR 34044).

 Section 1.1502-80 currently provides that section 304 applies for any consolidated return year. Section 304 treats a sale of stock by a shareholder to a person related to the shareholder as a distribution with respect to stock, which may be taxed as a dividend. Under the consolidated return regulations, a dividend, including one arising under section 304, is eliminated from income. Section 1.1502-14(a). Absent section 304(b)(4), a dividend arising under section 304 may result in inappropriate adjustments to basis in the stock of the transferor and other corporations in a consolidated group. Section 304(b)(4) prevents that result.

 The Internal Revenue Service has concluded that the simplest way to implement the purposes of section 304(b)(4) for a consolidated group is for section 304 not to apply to an acquisition of stock by one member from another member. Alternatives to implementing the purposes of section 304(b)(4), which would have required complex basis and earnings and profits adjustments, were rejected. Section 304 continues to apply, in appropriate cases, to an acquisition of stock by a member from a non-member.

 This document also contains revisions to section 1.1502-13T to provide a rule parallel to that contained in section 1.1502-14T(c), relating to the restoration of deferred gain resulting from the distribution of stock of a subsidiary by one member of a consolidated group to another member.

COMMENTS

 A hearing on the proposed regulations was held on December 10, 1991. Several speakers noted that, under the approach of the proposed regulations, a consolidated group may recognize gain associated with assets twice, when the assets are sold and, through restoration of deferred gain, when the stock in the corporation that held the assets is disposed of. This issue arises also when appreciated stock of a member is distributed from one member to another. The Internal Revenue Service is studying the issue as part of a regulations project under sections 1.1502-13 and 1.1502-14.

EXPLANATION OF PROVISIONS

 The final regulations amend section 1.1502-80 to provide that an acquisition of stock of a corporation by one member of a consolidated group from another member occurring on or after July 24, 1991 is not subject to section 304. These transfers of stock between members are treated, to the extent provided in section 1.1502-13, as deferred intercompany transactions.

 The final regulations do not affect the application of section 304(b)(4) to section 304 transfers not addressed by the final regulations. Section 304(b)(4) continues to require appropriate adjustments to basis and earnings and profits in such cases.

 The temporary regulations amend section 1.1502-13T to add rules similar to those provided in section 1.1502-14T(c) (which restores deferred gain on distributed stock) that apply to deferred gain arising in an intercompany transaction that is a sale or exchange of stock of a subsidiary.

SPECIAL ANALYSES

 It has been determined that these rules are not major rules as defined in Executive Order 12291. Therefore, a Regulatory Impact Analysis is not required. It also has been determined that section 553(d) 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, the notice of proposed rulemaking was submitted to the Chief Counsel for Advocacy of the Small Business Administration for comment on the impact of the rules on small business.

LIST OF SUBJECTS

26 CFR 1.1502-12 through 1.1502-100

 Income taxes, Controlled group of corporations, Consolidated returns.

Treasury Decision 8402

AMENDMENTS TO THE REGULATIONS

Accordingly, the amendments to 26 CFR chapter I, subchapter A, part 1 are as follows:

PART 1 -- INCOME TAX; TAXABLE YEARS BEGINNING AFTER DECEMBER 31, 1953.

Paragraph 1. The authority citation for part 1 is amended by adding the following citation:

Authority: Sec. 7805, 68A Stat. 917; 26 U.S.C. 7805, 26 U.S.C. 6038, and 26 U.S.C. 6038A * * * Section 1.1502-80 also issued under 26 U.S.C. 304(b)(4) and 1502 * * *

Par. 2. Section 1.1502-13T is amended by designating paragraph (o) as paragraph (p) and adding paragraph (o) to read as follows:

SECTION 1.1502-13T TEMPORARY REGULATIONS FOR CERTAIN INTERCOMPANY TRANSACTIONS.

* * * * *

(o) RESTORATION OF DEFERRED GAIN ON STOCK OF A MEMBER -- (1) RESTORATION RULE. For purposes of this section and section 1.1502-13, gain deferred with respect to an acquisition of stock of a subsidiary in an intercompany transaction shall be taken into account --

(i) Upon a disposition (as defined in section 1.1502-19(b)(2)) of the stock of the subsidiary in an amount equal to the amount that would have created or increased the excess loss account if the adjustment to basis (or excess loss account) of the stock of the subsidiary resulting from the acquisition had not occurred, or

(ii) Following a disposition (as defined in section 1.1502-19(b)(2)), to the extent distributions with respect to any stock owned by a member would exceed the basis of such stock if the adjustment to the basis of the stock resulting from the acquisition had not occurred.

(2) EXAMPLE. This paragraph (o) may be illustrated by the following example:

EXAMPLE. (a) Corporations P, S1, S2, and S3 file consolidated returns on a calendar year basis. P owns all of the outstanding stock of S1 and S2. S1 owns all 100 shares of the outstanding stock of S3. The S3 shares have an adjusted basis of $1,000 and value of $10,000. S1 sells all 100 shares of the S3 stock to S2 for $10,000 and recognizes $9,000 of gain. The gain is deferred under section 1.1502-13(c). S2 takes a $10,000 basis in the S3 stock under section 1.1502-31(a).

(b) S3 borrows $5,000 in 1992 and distributes the $5,000 to S2 in the same year. S3 has no current earnings and profits, and the distribution reduces S2's basis in the S3 stock from $10,000 to $5,000.

(c) In 1993, S3 has no current earnings and profits. At the end of 1993, S3 issues 100 shares of stock to X, an unrelated third party. As a result, S2 no longer owns 80 percent or more of the S3 stock and S3 ceases to be a member of the group. S3's ceasing to be a member of the group is a disposition of the S3 stock under section 1.1502-19(b)(2)(i). If the basis of the S3 stock had not been adjusted as a result of the sale of the S3 stock by S1 to S2, the $5,000 distribution would have resulted in a $4,000 excess loss account with respect to the S3 stock. Accordingly, S1 is required to take into account $4,000 of the deferred gain (the amount that would have been in the excess loss account but for the adjustment to the basis of the S3 stock resulting from its sale).

(d) In 1994, S2 sells its 100 shares of S3 stock to X for $6,000. S2 recognizes gain of $1,000 on the sale. Further, under section 1.1502-13(f)(1)(i), because the S3 stock is disposed of outside the group, S1 must take into account the remaining $5,000 of deferred gain on the S3 stock.

(3) EFFECTIVE DATE. This paragraph (o) applies to acquisitions of stock of a subsidiary in an intercompany transaction occurring on or after July 24, 1991.

* * * * *

Par. 3. Section 1.1502-80 is revised to read as follows:

SECTION 1.1502-80 APPLICABILITY OF OTHER PROVISIONS OF LAW.

(a) IN GENERAL. The Internal Revenue Code, or other law, shall be applicable to the group to the extent the regulations do not exclude its application. Thus, for example, in a transaction to which section 381(a) applies, the acquiring corporation will succeed to the tax attributes described in section 381(c). Furthermore, sections 269 and 482 apply for any consolidated year. Section 304 applies except as provided in paragraph (b) of this section.

(b) NON-APPLICABILITY OF SECTION 304. Section 304 does not apply to any acquisition of stock of a corporation in an intercompany transaction occurring on or after July 24, 1991.