Rev. Rul. 75-161

Advice has been requested whether, under the circumstances described below, gain will be recognized on a statutory merger of brother-sister corporations by reason of the application of section 357(c) of the Internal Revenue Code of 1954.

A, an individual owns all of the stock of corporation Y and 90 percent of the stock of corporation X. The remaining 10 percent of X stock is owned by B, an individual unrelated to A.

In a statutory merger, Y acquired all of the assets of X in exchange for Y stock and the assumption by Y of X's liabilities. The Y stock was distributed by X to A and B as part of the reorganization. At the time of the acquisition the liabilities of X exceeded X's total adjusted basis in the assets transferred. However, the liabilities of Y at this time did not exceed the total adjusted basis of its assets.

Section 357(c)(1)(B) of the Code provides, in part, that in the case of an exchange to which section 361 applies by reason of a plan of reorganization within the meaning of section 368(a)(1)(D), if the sum of the amount of the liabilities assumed, plus the amount of the liabilities to which the property is subject, exceeds the total of the adjusted basis of the property transferred pursuant to such exchange, then such excess shall be considered as a gain from the sale or exchange of a capital asset or of property which is not a capital asset, as the case may be.

Section 357(c)(1)(B) of the Code contains no exception for its application where a reorganization qualifies under section 368(a)(1)(A) as well as under section 368(a)(1)(D). Therefore, since section 361 applies in the instant case by reason of the transaction qualifying as a reorganization within the meaning of section 368(a)(1)(D), section 357(c)(1)(B) applies even though the transaction also qualifies as a reorganization under section 368(a)(1)(A).

Accordingly, the amount by which the liabilities of X assumed by Y which are in excess of the total adjusted basis of the assets of X when acquired by Y in the reorganization will be considered as gain to X from the sale or exchange of a capital asset or a noncapital asset, as the case may be.

If, in a statutory merger which satisfied all the requirements of a reorganization under both sections 368(a)(1)(A) and 368(a)(1)(D) of the Code, X had acquired all of the assets of Y in exchange for X stock and the assumption by X of Y's liabilities no gain would have been recognized to Y under section 357(c)(1)(B) because the total adjusted basis of Y's assets would have exceeded the liabilities of Y assumed by X.