The U.S. Treasury Department recently issued final regulations
allowing certain taxpayers to make a special election to treat a
disposition of domestic company stock as a disposition of that
company's assets for U.S. federal income tax purposes.
Depending on the facts of each particular disposition event, some
taxpayers will benefit from making this election and others will
not. Each disposition event must be separately analyzed to
determine if this election is beneficial or should not be
made.
Generally, a joint section 336(e) election allows (i) domestic
corporate owners or (ii) S corporation shareholders who dispose of
80 percent or more (by vote and value within a 12-month acquisition
period) of the stock of certain of their corporations to treat such
disposition as an asset sale rather than as a stock sale for U.S.
federal income tax purposes (a "qualified stock
disposition"). When available, the election allows the
corporation disposed of by the domestic corporate owners or the S
corporation shareholders to recognize its gains or losses as if it
sold all of its assets, and pay the tax, if any, on that deemed
sale, thereby providing that corporation with a fair market value
basis in its assets. The election is available only if the domestic
corporate owners or the S corporation shareholders (the
"Seller") dispose of at least 80 percent of the stock of
a domestic target corporation ("Target") in a sale,
exchange, or distribution. Dispositions to related persons do not
count in determining whether a qualified stock disposition has
taken place.
More specifically, the section 336(e) election is available where
(i) a single domestic corporation that is the owner of at least 80
percent of the stock of a Target disposes of at least 80 percent of
such stock in a taxable disposition to unrelated persons, (ii)
multiple members of the same consolidated group owning in the
aggregate at least 80 percent of the stock of a Target (such
members are treated as a single Seller for purposes of the
election) dispose of at least 80 percent of such stock in a taxable
disposition to unrelated persons, or (iii) owners of at least 80
percent of the stock of an S corporation Target dispose of at least
80 percent of such stock in a taxable disposition to unrelated
persons. On the other hand, a partnership or individual that
disposes of stock in a domestic corporation (other than an S
corporation) cannot make a section 336(e) election. There is no
restriction, however, regarding the acquiror of the Target stock in
a disposition transaction (e.g., acquirors of Target stock may be
individuals, partnerships, trusts, or corporations, and in each
case, domestic or foreign).
The election must be made jointly by the Seller and Target. The
Seller and Target must enter into a binding, written agreement to
make the election by the due date (as extended) of the Seller's
or the Target's U.S. federal income tax return, whichever is
earlier, for the year in which the qualified stock disposition
takes place (or, in the case of an S corporation Target, by the due
date (as extended) of the S corporation Target's U.S. federal
income tax return). In the case of an S corporation, all S
corporation shareholders (not just those disposing of their stock)
must enter into a binding agreement with the S corporation Target
to make the election. In addition to the binding, written
agreement, a section 336(e) election statement must be attached to
the U.S. federal income tax returns of the Seller and Target (or,
in the case of an S corporation Target, attached to the U.S.
federal income tax return of the S corporation Target) for the year
of the qualified stock disposition. A protective section 336(e)
election is permitted if there is uncertainty as to whether a
disposition qualifies for the election.
If the parties to an agreement (such as a stock purchase agreement)
do not wish to make a section 336(e) election for a qualified stock
disposition (or a disposition that could be a qualified stock
disposition), we suggest the following language be included in the
agreement:
The parties agree that no election pursuant to Section 336(e) of the Code (or under any similar state, local, or foreign law) shall be made with respect to Target in connection with the transactions contemplated by this Agreement.
On the other hand, if the parties wish to make a section 336(e)
election, or it has not been determined whether this election
should or should not be made, please contact a member of the Jones
Day tax practice in order to either craft the necessary language to
be included in the agreement, or analyze the facts to determine
whether this election would be beneficial.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.