Corporate Divestitures

1
Corporate Divestitures

• Occur when a corporation disposes of a subsidiary
  or separate line of business
• Same 4 alternative structures
• Taxable asset disposition
• Taxable stock disposition
• Nontaxable asset disposition
• Nontaxable stock disposition
• Includes spin-off, split-off, and split-up
  transactions

2
Taxable Subsidiary Sales

• Taxable asset sale
• Subsidiary recognizes gain or loss on sale of
  assets
• Character of gain is ordinary to extent
  attributable to inventory and depreciation
  recapture, remainder is capital
• Gain or loss included in consolidated tax return
  filed with divesting parent corporation
• Divesting parent corporation can liquidate
  subsidiary after asset sale if desired, without
  tax cost
• Acquirer takes a cost basis in the assets acquired

3
Taxable Subsidiary Sales continued

• Taxable stock sale without Sec. 338(h)(10)
  election
• Parent corporation recognizes gain or loss on the
  sale of subsidiary stock
• Acquirer takes a cost basis in the stock acquired
  and becomes the subsidiarys new parent
  corporation
• Subsidiarys tax basis in its assets is unchanged
  no step up or step down to FMV
• May produce fewer non-tax costs in comparison to
  asset sale (title transfer of one asset versus
  many)

4
Taxable Subsidiary Sales continued

• Taxable stock sale with Sec. 338(h)(10) election
  election to treat the sale of controlled
  subsidiary stock as an asset sale
• Acquirer must obtain 80 of subsidiarys stock
  within a 12-month period
• Election made jointly by acquirer and divesting
  parent corporation
• Subsidiary recognizes gain or loss on difference
  between purchase price and net asset basis

5
Taxable Subsidiary Sales continued

• Taxable stock sale with Sec. 338(h)(10) election
• Subsidiarys tax basis in its assets is stepped
  up or down to FMV
• Acquirer takes a cost basis in the stock acquired
  and becomes the subsidiarys new parent
  corporation

6
Example Taxable Subsidiary Sales

• Parent owns the stock of Sub (tax basis 5
  million). Tax basis of Subs assets is 3
  million it has no liabilities, loss or credit
  carryovers. Acquirer is willing to pay 9
  million for Subs assets. At this price, the tax
  benefits of a basis step-up are worth 1.5
  million.
• What are the tax consequences of the 3 forms of
  taxable sale? What do Parent and Acquirer
  prefer?
• At what price without the election is Acquirer
  indifferent between a stock purchase without a
  Sec. 338(h)(10) election and making the election?
  At this price, what does Parent prefer?

7
Tax-Free Subsidiary Sales

• Divesting parent can be the selling shareholder
  in a Type A, B, or C reorganization
• Such a sale results in divesting parent owning
  a large block of stock in the acquirer that may
  be difficult to sell and will trigger gain
  recognition on sale
• Equity carve-out
• Sale of part of controlled subsidiarys stock in
  an IPO
• No gain or loss if stock issued by sub versus
  owned by parent
• Typically limited to 20 or less of voting control

8
Tax-Free Spin-off

• Tax free under Sec. 355 if
• Parent has 80 control prior to spin-off and
  distributes control in the spin-off
• Subsidiary and parent must continue to engage in
  a business that had been conducted for at least 5
  years before the distribution
• Parent must have held the stock of the subsidiary
  for at least 5 years before the distribution
  (unless acquired in a nontaxable transaction)
• Must have a valid business purpose
• Shareholders of the divesting parent must
  maintain control of parent and subsidiary
  post-spin-off
• Parent and subsidiary cannot be acquired within 2
  years of the spin-off

9
Tax Consequences of a Qualifying Spin-off

• No gain or loss recognized by divesting parent
• Parent shareholders allocate a portion of tax
  basis in parent shares to subsidiary shares
  received
• Subsidiarys tax basis in its assets is unchanged