Daily Tax Update - December 12, 2008

TEMPORARY REGULATIONS ISSUED REGARDING SECTION 355(a)(3) “HOT STOCK” RULE:  Today, the IRS and Treasury issued temporary regulations modifying the application of the section 355(a)(3)(B) hot stock rule in order to harmonize it with the active trade or business rules of section 355(b)(3). The temporary regulations are effective for distributions occurring after the regulations are published in the Federal Register, although taxpayers may elect to apply them retroactively to distributions occurring after May 17, 2006, the effective date of section 355(b)(3).

  • Section 355(a)(3)(B) provides that, for purposes of section 355 (other than section 355(a)(1)(D)), stock of a controlled corporation (“Controlled”) acquired by a distributing corporation (“Distributing”) by reason of any transaction (i) which occurs within five years of the distribution of such stock, and (ii) which is a taxable transaction, shall not be treated as stock of controlled, but as other property (i.e., “hot stock”). 
  • Section 355(b)(3)(A) provides that, for purposes of meeting the active trade or business requirement of section 355(b)(2)(A), all members of the corporation’s separate affiliated group (“SAG”) are treated as one corporation. A corporation’s SAG is the affiliated group that would be determined under section 1504(a) if the corporation were the common parent and section 1504(b) did not apply.
  • The temporary regulations provide that Controlled stock acquired in a taxable transaction by Distributing’s SAG within the five year pre-distribution period constitutes hot stock, unless Controlled is a member of Distributing’s SAG at any time after the acquisition (but prior to the distribution of Controlled). The temporary regulations also disregard transfers of Controlled stock between members of Distributing’s SAG for purposes of the hot stock rule.
  • The temporary regulations retain the affiliate exception of former Treas. Reg. § 1.355-2(g), which generally provides that the hot stock rule does not apply to Distributing’s acquisition of Controlled stock from a member of Distributing’s affiliated group (as defined in Treas. Reg. § 1.355-3(b)(4)(iv)). 
  • The IRS and Treasury are considering issuing additional guidance under section 355(a)(3)(B). The main types of transactions that would be addressed in such guidance generally involve the effect of indirect acquisitions and the extent to which predecessor rules should apply for purposes of the hot stock rule. The IRS and Treasury also are considering additional guidance that would generally provide that issuances of Controlled stock by Controlled to Distributing in a taxable transaction (e.g., section 357(c)) and redemptions of Controlled stock from unrelated parties do not give rise to hot stock. The IRS and Treasury requested comments on these issues.
  • For additional information, contact Mark J. Silverman - msilverman@steptoe.com or Lisa M. Zarlenga - lzarlenga@steptoe.com
  • The regulations can be accessed here and here.

IRS ISSUES UPDATED Guidance on Transferred Basis Transactions:  Today, the IRS issued Notice 2009-4 that sets forth the substance of guidance the IRS is considering publishing regarding how to determine the basis in stock acquired in section 368(a)(1)(B) reorganizations and other transferred basis transactions. Currently, Revenue Procedure 81-70 provides taxpayers with guidance on determining basis after section 368(a)(1)(B) reorganizations, but market practices have changed substantially since 1981. In particular, stock is held primarily in street name, making it difficult to determine the beneficial owners, and the securities reports that provide the most reliable information regarding nominee holders are retained only for a limited time. The guidance being considered in Notice 2009-4 would retain the survey requirement and sampling/estimation techniques adopted by Rev. Proc. 81-70, but would expand Rev. Proc. 81-70 to apply to all transferred basis transactions (not just section 368(a)(1)(B) reorganizations) and to respond to changed market practices. 

  • The Notice provides taxpayers with several “safe harbor” provisions:
    • Safe Harbor for Target Stock Surrendered by or on behalf of Reporting Shareholders:  Under this safe harbor, an acquirer’s basis in stock surrendered by reporting shareholders must be determined by survey. The survey method requires that the acquirer collect information about surrendered stock from certain reporting shareholders.
    • Safe Harbor for Target Stock Surrendered by or on behalf of Registered, Non-reporting Shareholders:  Under this safe harbor, an acquirer’s basis in stock surrendered by registered, non-reporting shareholders must be determined by the certificate method. The certificate method requires that the acquirer examine the target’s books and records to determine the date each certificate was issued and then use public and private exchange trading data to determine the average trading price of the target’s stock.     
    • Safe Harbor for Target Stock Surrendered by Nominees on Behalf of Non-reporting Shareholders:  Under this safe harbor, an acquirer’s basis in stock surrendered by nominees on behalf of non-reporting shareholders must be determined under the basis modeling method. The basis modeling method uses certain measuring dates and each nominee’s starting basis to separately determine acquirer’s basis in each series of shares surrendered. A nominee is the title owner of equity securities settled through a clearing agency registered pursuant to Section 17A of the Securities Exchange Act of 1934, that holds the stock for or on behalf of the beneficial owner of the stock, typically one of the nominee’s participating members.  
  • Although the expanded revenue procedure will not be effective until it is issued, Notice 2009-4 permits taxpayers to rely on the safe harbors provided in the Notice in the interim.
  • Notice 2009-4 also treats taxpayers as satisfying the basis reporting requirements of Treas. Regs. §§ 1.351-3 and 1.368-3 if they provide a statement that a basis study is pending and they file complete statements with their return that includes the date that is 2 years after the date of the transferred basis transaction.     
  • For additional information, contact Mark J. Silverman - msilverman@steptoe.com or Lisa M. Zarlenga - lzarlenga@steptoe.com 

WHITE HOUSE SAYS IT WILL CONSIDER USING TARP FUNDS AFTER AUTO BAILOUT BILL STALLS IN SENATE:  The White House said today it is willing to consider using part of the $700 billion (Troubled Asset Relief Program or TARP) approved to rescue the financial services industry for the auto industry. The Administration’s announcement came after the Senate rejected the bailout bill last night on a procedural vote of 52-35 and further negotiations collapsed.

  • A White House spokesperson said today, “Given the current weakened state of the US economy, we will consider other options if necessary -- including use of the TARP program to prevent a collapse of troubled automakers. A precipitous collapse of this industry would have a severe impact on our economy, and it would be irresponsible to further weaken and destabilize our economy at this time.” The spokesperson added, “Congress spoke last night. They don't have the votes to do anything. They didn't get it over the goal line and so we have to consider what other options we would take." No timetable for Administration action has been announced.
  • Today, a Treasury spokesperson said, “Because Congress failed to act, we will stand ready to prevent an imminent failure until Congress reconvenes and acts to address the long-term viability of the industry.”  
  • After last night’s vote, Senate Minority Leader Mitch McConnell said, “We have had before us this whole question of the viability of the American automobile manufacturers. None of us want to see them go down, but very few of us had anything to do with the dilemma that they have created for themselves.” McConnell added: “The administration negotiated in good faith with the Democratic majority a proposal that was simply unacceptable to the vast majority of our side because we thought it frankly wouldn’t work.”

MISCELLANEOUS GUIDANCE ISSUED:
Notice 2009-03, issued yesterday, provides relief for sponsors of 403(b) retirement plans with respect to the requirement to have a written § 403(b) plan in place by January 1, 2009. This notice also briefly describes other programs the Service intends to establish relating to § 403(b) plans.

TAX BILL INTRODUCED DECEMBER 11TH:
S.3735: A bill to amend the Internal Revenue Code of 1986 to provide for the eligibility of computer technology and equipment development businesses for enterprise zone incentives.
Sponsor: Sen Landrieu, Mary L. [LA] (introduced 12/11/2008)      Cosponsors (None)

INTERNAL REVENUE SERVICE - CIRCULAR 230 DISCLOSURE:
As provided for in Treasury regulations, advice (if any) relating to federal taxes that is contained in this communication (including attachments) is not intended or written to be used, and cannot be used, for the purpose of (1) avoiding penalties under the Internal Revenue Code or (2) promoting, marketing or recommending to another party any plan or arrangement addressed herein.

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