Rev. Rul. 82-129

ISSUE

Whether there is an acquisition of stock within the meaning of section 302(c)(2)(B)(i) or (ii) of the Internal Revenue Code on the partition into separate interests of stock held by a shareholder and spouse as community property, for purposes of determining whether a later redemption of all the stock held by one spouse qualifies as a complete termination within the meaning of section 302(b)(3) and (c).

FACTS

A domestic corporation, X, had outstanding 100 shares of voting common stock, all held for the past ten years as community property by A and B, husband and wife. Under the laws of the community property state in which A and B lived, the interest of each spouse in the community property is present, existing, and equal to the interest of the other spouse.

To meet A's need for money, the following two steps were taken. The 100 shares of X stock held by A and B were partitioned under state law so that A and B each held a separate interest in 50 shares. X then distributed 200x dollars cash to A in redemption of A's 50 shares of X stock.

The fair market value of the 50 shares redeemed was equal to the 200x dollar redemption price. Immediately after the redemption, A terminated all interest in, and relationship with, X (except for the indirect interest attributable to A from B).

LAW AND ANALYSIS

Section 302(a) of the Code provides that if a corporation redeems its stock and if paragraph (1), (2), or (3) of section 302(b) applies to the redemption, the redemption is treated as a distribution in part or full payment in exchange for the stock. Section 302(b)(3) states that section 302(a) applies to a redemption if it is a complete redemption of all the stock of the corporation owned by the shareholder.

For purposes of section 302 of the Code, section 302(c)(1) provides for the applicability of the constructive ownership of stock rules of section 318(a). Section 318(a)(1) provides, in part, that an individual is considered as owning stock owned by a spouse.

Under section 302(c)(2)(A) of the Code, an exception to the applicability of the constructive ownership of stock rules provides that, if all the conditions specified are met, section 318(a)(1) shall not apply in determining whether a redemption terminates a shareholder's interest within the meaning of section 302(b)(3). These conditions are that (i) immediately after the distribution the distributee has no interest in the corporation (including an interest as officer, director, or employee) other than an interest as a creditor, (ii) the distributee does not acquire any such interest (other than stock acquired by bequest or inheritance) within 10 years from the date of such distribution, and (iii) the distributee, under regulations prescribed by the Secretary, files an agreement to notify the Secretary of any acquisition described in clause (ii) and to retain necessary records.

However, section 302(c)(2)(B)(i) of the Code provides generally that section 302(c)(2)(A) shall not apply if any portion of the stock redeemed was acquired within the 10-year period ending on the date of distribution by the distributee from a person whose ownership of stock (at the time of distribution) would be attributable to the distributee under section 318(a). Similarly, section 302(c)(2)(B)(ii) provides that section 302(c)(2)(A) shall not apply if, at the time of distribution, a person other than the distributee owns stock in the redeeming corporation and ownership of this stock is attributable to the distributee under section 318(a) and this other person has acquired stock in the corporation from the distributee within the 10-year period.

In the present situation, the partition of the community property resulted in A and B holding separately what together they had previously held as a community property. The partition changed each spouse's stock holding from being a half interest in all the property into a whole interest in half the property. Thus, after the partition, A and B could, in a sense, be viewed as each holding property half of which had been received from the other spouse, so that the stock acquisition requirement of section 302(c)(2)(B)(i) and (ii) of the Code would be viewed as being met.

However, to take the view that the partition results in an acquisition of stock for purposes of section 302(c)(2)(B) of the Code is incorrect. Neither A nor B holds any more X stock after the partition than was held before. In Rev. Rul. 55-709, 1955-2 C.B. 609, it was held that an equal division of community property between a husband and wife does not result in a gift. Similarly, in the present situation, since A and B each held a present, existing, and equal interest in the 100 shares of X stock held as community property, the partition of these 100 shares between A and B does not result in A having made either an acquisition or disposition of X stock within the meaning of section 302(c)(2)(B)(i) and (ii). To hold otherwise would fail to recognize that section 302(c)(2)(B) is directed to situations where a redemption is preceded by a shift in proportionate stock ownership between redeeming and nonredeeming family members, rather than a situation such as that presented here where there is no such shift in proportionate interest.

HOLDING

The partition into separate interests of the X stock held as community property by the spouses, A and B, does not constitute an acquisition of stock by A or B within the meaning of either section 302(c)(2)(B)(i) or (ii) of the Code.

The provisions of section 302(c)(2)(A) of the Code are applicable to the redemption of A's stock in X. Because the attribution rules of section 318(a)(1) will not be applicable to treat A as owning B's stock in X, A will have completely terminated A's interest in X within the meaning of section 302(b)(3), provided A files the agreement required under section 302(c)(2)(A)(iii).