`[Federal Register Volume 90, Number 10 (Thursday, January 16, 2025)]
[Proposed Rules]
[Pages 5220-5295]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2025-00321]



[[Page 5219]]

Vol. 90

Thursday,

No. 10

January 16, 2025

Part VII





 Department of the Treasury





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 Internal Revenue Service





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26 CFR Part 1





Guidance Regarding Certain Matters Relating to Nonrecognition of Gain 
or Loss in Corporate Separations, Incorporations, and Reorganizations; 
Proposed Rule

  Federal Register / Vol. 90, No. 10 / Thursday, January 16, 2025 / 
Proposed Rules  

[[Page 5220]]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-112261-24]
RIN 1545-BR32


Guidance Regarding Certain Matters Relating to Nonrecognition of 
Gain or Loss in Corporate Separations, Incorporations, and 
Reorganizations

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This document contains proposed regulations regarding certain 
matters relating to corporate separations, incorporations, and 
reorganizations qualifying, in whole or in part, for nonrecognition of 
gain or loss. These matters include distributions and retentions of 
controlled corporation stock, assumptions of liabilities by controlled 
corporations, exchanges of property between distributing corporations 
and controlled corporations, and distributions and transfers of 
consideration to distributing corporation shareholders and creditors. 
The proposed regulations would affect corporations and their 
shareholders and security holders. Proposed regulations modifying the 
reporting requirements for corporate separations are published 
elsewhere in the Proposed Rules section of this issue of the Federal 
Register.

DATES: Written or electronic comments and requests for a public hearing 
must be received by March 17, 2025.

ADDRESSES: Commenters are strongly encouraged to submit public comments 
electronically via the Federal eRulemaking Portal at https://www.regulations.gov (indicate IRS and REG-112261-24) by following the 
online instructions for submitting comments. Requests for a public 
hearing must be submitted as prescribed in the ``Comments and Requests 
for a Public Hearing'' section. Once submitted to the Federal 
eRulemaking Portal, comments cannot be edited or withdrawn. The 
Department of the Treasury (Treasury Department) and the IRS will 
publish for public availability any comments to the IRS's public 
docket. Send paper submissions to CC:PA:01:PR (REG-112261-24), Room 
5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
Justin R. Du Mouchel at (202) 317-6975 (not a toll-free number); 
concerning submissions of comments and requests for a hearing, contact 
the Publications and Regulations branch at (202) 317-6901 (not a toll-
free number) or by email to [email protected] (preferred).

SUPPLEMENTARY INFORMATION:

Authority

    This document contains proposed regulations under sections 355, 
357, 361, and 368 of the Internal Revenue Code (Code) that would amend 
26 CFR part 1 (Income Tax Regulations) by providing guidance regarding 
certain matters relating to corporate separations, reorganizations, and 
incorporations qualifying, in whole or in part, for nonrecognition of 
gain or loss. The proposed additions and amendments to the Income Tax 
Regulations are issued pursuant to the express delegations of authority 
to the Secretary of the Treasury or her delegate (Secretary) provided 
under sections 337(d), 361(b)(3), and 7805(a) of the Code.
    Section 337(d) states, in part, that ``[t]he Secretary shall 
prescribe such regulations as may be necessary or appropriate to carry 
out the purposes of the amendments made by subtitle D of title VI of 
the Tax Reform Act of 1986,'' including regulations ``to ensure that 
such purposes may not be circumvented through the use of any provision 
of law or regulations (including the consolidated return regulations 
and part III of this subchapter).'' Relating to the treatment of 
transfers to creditors, the second sentence of section 361(b)(3) states 
that ``[t]he Secretary may prescribe such regulations as may be 
necessary to prevent avoidance of tax through abuse of the preceding 
sentence or [section 361](c)(3).'' Finally, section 7805(a) authorizes 
the Secretary to ``prescribe all needful rules and regulations for the 
enforcement of [the Code], including all rules and regulations as may 
be necessary by reason of any alteration of law in relation to internal 
revenue.''

Background

I. Overview of Section 355

A. Section 355 Transactions

1. In General
    If a transaction satisfies the requirements of section 355 (section 
355 transaction) and other relevant provisions of the Code and Income 
Tax Regulations, the transaction may occur without recognition of any 
gain or loss to the distributing corporation (within the meaning of 
section 355(a)(1)(A)) and without recognition of any gain or loss to, 
or the inclusion of any amount in the income of, the shareholders or 
security holders of the distributing corporation. A section 355 
transaction may take one of the following forms: (i) a spin-off, which 
is a pro rata distribution of stock of the controlled corporation 
(within the meaning of section 355(a)(1)(A)) to shareholders of the 
distributing corporation; (ii) a split-off, which is a distribution of 
stock of the controlled corporation to some (but not all) shareholders 
of the distributing corporation in exchange for some or all of their 
stock of the distributing corporation; or (iii) a split-up, which is a 
liquidating distribution in which the distributing corporation 
distributes to its shareholders, either pro rata or non-pro rata, the 
stock of more than one controlled corporation. As discussed in parts 
I.A.3 and I.A.4 of this Background, a section 355 transaction may occur 
either as a ``section 355(c) distribution'' or as part of a ``divisive 
reorganization.''
2. General Utilities Repeal
    In General Utilities & Operating Co. v. Helvering, 296 U.S. 200 
(1935), the Supreme Court of the United States (Supreme Court) held 
that corporations generally could distribute appreciated property to 
their shareholders without the recognition of any corporate-level gain 
(General Utilities doctrine). Congress repealed the General Utilities 
doctrine beginning with legislation in 1969 and culminating with the 
Tax Reform Act of 1986 (Public Law 99-514, 100 Stat. 2085), which, 
among other changes, amended sections 311, 336, and 337 of the Code 
(originally enacted in the Internal Revenue Code of 1954 (1954 Code) 
(Public Law 83-591, 68A Stat. 3) to apply gain and loss recognition to 
non-liquidating and liquidating distributions, respectively.
    Notwithstanding the repeal of the General Utilities doctrine, 
section 355 allows a distributing corporation to distribute the stock 
and securities of a subsidiary (that is, a controlled corporation) to 
its shareholders without imposing a corporate-level tax on the 
distribution. Accordingly, as observed by the United States Tax Court 
(Tax Court), ``more attention has been directed toward [s]ection 355 
today than was ever the case in the past [because] it is one of the few 
(some might say the only) viable opportunity to escape the repeal of 
the General Utilities doctrine.'' McLaulin v. Comm'r, 115 T.C. 255, 266 
(2000).
    In connection with the repeal of the General Utilities doctrine, 
Congress authorized the Treasury Department to promulgate regulations 
to carry out the purposes of that repeal, including by

[[Page 5221]]

preventing its avoidance. Specifically, section 337(d) directs the 
Secretary to prescribe regulations that are necessary or appropriate to 
carry out the purposes of General Utilities repeal, including 
``regulations to ensure that such purposes may not be circumvented 
through the use of any provision of law or regulations (including . . . 
part III of this subchapter).'' Section 355, among other corporate 
organization and reorganization provisions, is included in part III of 
subchapter C of chapter 1 of the Code (subchapter C).
3. Section 355(c) Distributions
    The general rule set forth in section 355(c)(1) provides that no 
gain or loss is recognized to a distributing corporation upon any 
distribution to which section 355 (or so much of section 356 of the 
Code as relates to section 355) applies and that is not made pursuant 
to a plan of reorganization (section 355(c) distribution). However, if 
the distributing corporation distributes any property other than stock 
or securities of a controlled corporation (that is, any property other 
than qualified property, as defined in section 355(c)(2)(B)) in a 
section 355(c) distribution, and if the fair market value of that 
property exceeds the distributing corporation's adjusted basis in that 
property, then section 355(c)(2)(A) requires the distributing 
corporation to recognize gain as if the property were sold to the 
distributee at its fair market value. This Federal income tax treatment 
reflects the status of section 355 as a narrow exception to General 
Utilities repeal. Compare section 311(b).
    Because a section 355(c) distribution is not made pursuant to a 
plan of reorganization, a section 355(c) distribution (unlike a 
divisive reorganization) does not permit the distributing corporation 
to satisfy distributing corporation debt constituting securities with 
property other than qualified property. In other words, because a 
section 355(c) distribution does not qualify as a reorganization under 
the definitional provisions of section 368(a)(1), the operative 
provision set forth in section 361(b)(3) is not applicable. Therefore, 
in a section 355(c) distribution, a distributing corporation cannot 
transfer any property other than qualified property to its creditors 
(including its security holders) without recognizing gain or loss on 
that transfer.
4. Divisive Reorganizations
    A distributing corporation may carry out a section 355 transaction 
as part of a transaction that qualifies as a reorganization under 
section 368(a)(1)(D) or (G) and to which section 354 of the Code (or so 
much of section 356 as relates to section 354) does not apply (divisive 
reorganization). Section 368(a)(1)(D) provides, in part, that a 
reorganization includes a transfer by the distributing corporation of 
all or a part of its assets to a controlled corporation if, immediately 
after the transfer, the distributing corporation or one or more of its 
shareholders (including persons who were shareholders immediately 
before the transfer) are in control (within the meaning of section 
368(c)) of the controlled corporation; but only if, pursuant to the 
plan of reorganization, stock or securities of the controlled 
corporation are distributed in a transaction that qualifies under 
section 355 or 356.
    Under section 368(a)(1)(G), a transfer by a distributing 
corporation of all or a part of its assets to a controlled corporation 
in a case under title 11 of the United States Code or a similar case 
described in section 368(a)(3)(A)(ii) (title 11 or similar case) also 
is a divisive reorganization if, pursuant to the plan of 
reorganization, stock or securities of the controlled corporation are 
distributed in a transaction that qualifies under section 355 (or so 
much of section 356 as relates to section 355). Section 368(a)(3)(C) 
provides an ordering rule under which a transaction that would qualify 
both under section 368(a)(1)(G) and, among other provisions, under 
section 368(a)(1)(D) or section 351 of the Code, is treated as 
qualifying solely under section 368(a)(1)(G) for all purposes of 
subchapter C other than section 357(c)(1).
    If a transaction satisfies the definitional requirements of section 
368(a)(1)(D) or (G), the distributing corporation may qualify for 
nonrecognition treatment for (i) its exchange of property with the 
controlled corporation, (ii) its distribution of certain property to 
its shareholders, and (iii) its transfer of certain property to its 
creditors. Under section 357(a), the controlled corporation generally 
may assume distributing corporation liabilities without the 
distributing corporation recognizing gain or loss, except as provided 
in (i) section 357(b) (if the principal purpose for the liability 
assumption is to avoid Federal income tax or is not a bona fide 
business purpose), and (ii) section 357(c) (if the sum of the amount of 
liabilities assumed by the controlled corporation is greater than the 
total adjusted basis of assets transferred in the exchange).
    Under section 361(a), the distributing corporation recognizes no 
gain or loss if it exchanges property pursuant to the plan of 
reorganization solely for stock and securities in the controlled 
corporation. Under section 361(b)(1)(A), if section 361(a) would apply 
to an exchange but for the fact that the property received by the 
distributing corporation also includes money or other property, no gain 
will be recognized by the distributing corporation if it distributes 
the money or other property pursuant to the plan of reorganization. 
Under section 361(b)(3), the distributing corporation also generally 
may transfer that money or other property in connection with the 
reorganization to its creditors in satisfaction of distributing 
corporation debt held by those creditors, without recognition of gain 
or loss under section 361(b)(1)(A) to the extent the sum of the money 
and the fair market value of the other property transferred to such 
creditors does not exceed the adjusted bases of such assets transferred 
(reduced by the amount of liabilities assumed within the meaning of 
section 357(c)).
    Under section 361(c)(1), the distributing corporation recognizes 
neither gain nor loss on its distribution of qualified property to its 
shareholders pursuant to the plan of reorganization. For this purpose, 
section 361(c)(2)(B) defines ``qualified property'' as any stock in, 
right to acquire stock in, or obligation of (i) the distributing 
corporation, or (ii) another corporation that is a party to the 
reorganization (for example, the controlled corporation) if such stock, 
stock right, or obligation is received by the distributing corporation 
in the exchange. In connection with the reorganization, the 
distributing corporation also generally may transfer that qualified 
property to its creditors in satisfaction of distributing corporation 
debt held by those creditors, without recognition of gain or loss under 
section 361(c).
    For purposes of this preamble, the term ``section 361 
consideration'' means, as described in section 361(a) and (b), the 
consideration received by a target corporation from an acquiring 
corporation in exchange for property transferred by the target 
corporation to the acquiring corporation pursuant to a plan of 
reorganization. Accordingly, in the context of a divisive 
reorganization, the term ``section 361 consideration'' means, for 
purposes of this preamble, the consideration received by the 
distributing corporation from the controlled corporation in exchange 
for property transferred by the distributing corporation to the 
controlled corporation pursuant to the plan of reorganization.

[[Page 5222]]

B. General Federal Income Tax Consequences to Distributing Corporation 
Shareholders

    Section 355(a)(1) provides that, if a distributing corporation 
distributes to its shareholders with respect to its stock, or 
distributes to its security holders in exchange for their securities, 
solely stock or securities of a controlled corporation, and if certain 
other requirements are satisfied, then no gain or loss is recognized 
by, and no amount is included in the income of, the distributing 
corporation's shareholders or security holders upon the receipt of 
stock or securities of the controlled corporation. However, if any 
property is received that is not permitted to be received under section 
355(a)(1), then section 356 (and not section 355) applies to the 
receipt of such property as provided in sections 355(a)(4)(A) and 356.

C. General Requirements for Qualification Under Section 355

    To qualify as a section 355 transaction under section 355(a)(1), a 
transaction must satisfy the following requirements. First, under 
section 355(a)(1)(A), the distributing corporation must distribute 
stock or securities of a controlled corporation to a shareholder with 
respect to distributing corporation stock, or to a security holder in 
exchange for its securities. Second, under section 355(a)(1)(B), the 
transaction may not be used principally as a device for the 
distribution of the earnings and profits of the distributing 
corporation, the controlled corporation, or both. Third, under section 
355(a)(1)(C), the distributing corporation and each controlled 
corporation must satisfy the active trade or business requirements of 
section 355(b).
    With particular regard to these proposed regulations, section 
355(a)(1) imposes a fourth requirement regarding distributions of 
controlled corporation stock and securities. Specifically, section 
355(a)(1)(D) requires that, ``as part of the distribution,'' the 
distributing corporation must distribute either (i) all stock and 
securities in the controlled corporation held by the distributing 
corporation immediately before the distribution, or (ii) an amount of 
stock in the controlled corporation constituting ``control'' within the 
meaning of section 368(c) (control distribution). In the case of 
distributions of less than 100 percent of stock in the controlled 
corporation, it must be established to the satisfaction of the 
Secretary that the retention by the distributing corporation of stock 
(or stock and securities) of the controlled corporation was not 
pursuant to a plan having as one of its principal purposes the 
avoidance of Federal income tax. For purposes of this preamble, such a 
retention of controlled corporation stock (or stock and securities) by 
the distributing corporation is referred to as a ``retention,'' and the 
requirements in section 355(a)(1)(D) are referred to collectively as 
the ``distribution requirement.''

D. The Distribution Requirement and Retentions

1. Overview
    As described in part I.C of this Background, the distribution 
requirement consists of two alternative rules. Under section 
355(a)(1)(D)(i), the distributing corporation will satisfy the 
distribution requirement if it distributes all stock and securities in 
the controlled corporation held by the distributing corporation 
immediately before the distribution. Alternatively, under section 
355(a)(1)(D)(ii), the distributing corporation will satisfy the 
distribution requirement if it satisfies the following two discrete 
requirements: (i) the distributing corporation distributes an amount of 
controlled corporation stock sufficient to qualify as a control 
distribution; and (ii) the distributing corporation establishes to the 
satisfaction of the Secretary that the retention of any controlled 
corporation stock or securities was not pursuant to a plan having as 
one of its principal purposes the avoidance of Federal income tax.
2. Requirements for Control Distribution; Commissioner v. Gordon
    Section 355(a)(1)(D) provides that, if a distributing corporation 
does not distribute all its stock and securities in the controlled 
corporation, the distributing corporation must make a control 
distribution as ``part of the distribution.'' However, section 
355(a)(1)(D) does not expressly impose a temporal requirement for 
making a control distribution. Accordingly, section 355(a)(1)(D) could 
be read as permitting a control distribution to occur over multiple 
taxable years of the distributing corporation.
    In Commissioner v. Gordon, 391 U.S. 83 (1968), the Supreme Court 
considered the application of the distribution requirement to 
distributions by Pacific Telephone and Telegraph Company (Pacific) of 
stock of a newly formed, wholly owned subsidiary (Northwest) over 
multiple taxable years of Pacific. American Telephone and Telegraph 
Company (AT&T), which owned approximately 90 percent of the stock of 
Pacific, decided to separate Pacific into two separate companies and, 
to effectuate that separation, caused Pacific to engage in the 
following transactions. First, pursuant to a plan of reorganization 
submitted to its shareholders, Pacific issued to its shareholders 
(including the taxpayer) transferable rights to acquire approximately 
57 percent of the stock of Northwest on September 29, 1961. That plan 
of reorganization also provided that Pacific had an ``expectation'' 
that the remaining 43 percent of Northwest stock would be offered to 
Pacific's shareholders. Among other reasons for not distributing 100 
percent of its Northwest stock, Pacific desired to achieve an 
appropriate capital structure and avoid potential State regulatory 
issues. On June 12, 1963, Pacific issued to its shareholders 
transferable rights to acquire the remaining 43 percent of Northwest 
stock. The taxpayer contended that the 1961 and 1963 distributions 
collectively qualified under section 355.
    The Court concluded that neither distribution qualified under 
section 355, notwithstanding Pacific's ``expectation'' regarding the 
second distribution and its purposes for making multiple distributions. 
Gordon, 391 U.S. at 98. In its analysis, the Court expressed a general 
principle of Federal income tax that, ``[a]bsent other specific 
directions from Congress, Code provisions must be interpreted so as to 
conform to the basic premise of annual tax accounting.'' Id. at 96. 
With regard to the distribution requirement, the Court noted that, if 
an initial transfer of less than a controlling interest in the 
controlled corporation is to be treated for Federal income tax purposes 
as a mere first step in the divestiture of control, ``it must at least 
be identifiable as such at the time it is made.'' Id. The Court further 
stated that the requirement that the character of a transaction be 
determinable ``does not mean that the entire divestiture must 
necessarily occur within a single tax year,'' but it does mean that, if 
one transaction is to be characterized as a ``first step,'' then 
``there must be a binding commitment to take the later steps.'' Id. Of 
particular relevance to both the IRS's administrative function and the 
objective of these proposed regulations to provide increased certainty 
(see part IV of this Background), the Court expressed that it would be 
wholly inconsistent with the annual accounting premise to hold that the 
essential character of a transaction, and its Federal income tax 
impact, should remain ``not only undeterminable but unfixed for an

[[Page 5223]]

indefinite and unlimited period in the future, awaiting events that 
might or might not happen.'' Id.
    The Court found that the facts and circumstances of Pacific's 
staggered distributions of Northwest stock, as reflected in Pacific's 
plan of reorganization, failed the binding-commitment standard set 
forth by the Court. Id. at 97. Although Pacific's plan of 
reorganization evidenced an expectation to distribute its remaining 
Northwest stock within a three-year period following its initial 57-
percent distribution, the Court emphasized that ``there is obviously no 
promise to sell any particular amount of stock, at any particular time, 
at any particular price'' set forth in that document. Id. Instead, 
Pacific's plan of reorganization merely stated that such subsequent 
distributions would occur ``[a]t a time or times related to its 
(Pacific's) need for new capital.'' Id. Consequently, the Court 
reasoned that, ``[i]f the 1961 distribution played a part in what later 
proved to be a total divestiture of the Northwest stock, it was not, in 
1961, either a total divestiture or a step in a plan of total 
divestiture.'' Id. at 97-98.
3. Retentions
    Section 1.355-2(e), which reiterates the distribution requirement, 
provides that the corporate business purpose or purposes for the 
distribution ordinarily will require the distribution of all stock and 
securities of the controlled corporation. If the distributing 
corporation retains any controlled corporation stock or securities, and 
if it is not established to the satisfaction of the Commissioner that 
the retention was not pursuant to a plan having as one of its principal 
purposes the avoidance of Federal income tax, section 355 does not 
apply to the entire distribution (that is, the entire distribution 
fails to qualify as a section 355 transaction).
    In Rev. Rul. 75-321, 1975-2 C.B. 123, the IRS addressed whether the 
retention by a widely held and publicly traded corporation 
(Distributing) of stock in its banking subsidiary (Controlled) complied 
with section 355(a)(1)(D)(ii) (that is, whether the retention was 
pursuant to a plan having as one of its principal purposes the 
avoidance of Federal income tax). In this revenue ruling, Distributing 
distributed 95 percent of the stock of Controlled to Distributing's 
shareholders to comply with Federal banking laws in a transaction that 
otherwise satisfied the requirements of section 355. Distributing 
retained 5 percent of Controlled's stock to meet collateral 
requirements for short-term financing. The IRS concluded that the 
retention was not pursuant to a plan having as one of its principal 
purposes the avoidance of Federal income tax, because (i) a genuine 
separation of the corporate entities was effectuated, (ii) retention of 
a 5-percent stock interest in Controlled would not enable Distributing 
to maintain practical control over Controlled following the 
distribution, and (iii) a sufficient corporate business purpose existed 
for Distributing's retention of the 5-percent interest in Controlled. 
See also Rev. Rul. 75-469, 1975-2 C.B. 126 (similar ruling with respect 
to a distributing corporation's retention of controlled corporation 
securities to serve as collateral for a bank loan to the distributing 
corporation).
    Similarly, in G.C.M. 32136 (Oct. 23, 1961), the IRS considered 
whether the retention by a distributing corporation (Distributing) of 
stock in a newly formed controlled corporation (Controlled) was 
pursuant to a plan having as one of its principal purposes the 
avoidance of Federal income tax. Under the facts described in that 
memorandum, Distributing distributed 80 percent of Controlled stock to 
Distributing's shareholders to comply with State banking laws in a 
transaction that otherwise satisfied the requirements of section 355, 
and Distributing retained 20 percent of Controlled stock. The avowed 
purpose for the retention was to permit a controlling group of 
Distributing's shareholders to maintain effective control over 
Controlled. In concluding that Distributing had a Federal income tax 
avoidance purpose for the retention, the IRS determined that the 
requirement that a retention be specially justified ``seems most likely 
to be intended to insure a genuine separation.'' See also G.C.M. 32380 
(Aug. 24, 1962) (reiterating that view).

II. Definitional and Operative Provisions Regarding Reorganizations

A. Overview

    Subchapter C generally includes (i) definitional provisions, 
including under section 368, and (ii) operative provisions, including 
under sections 354, 356, 357, and 361. See, for example, Microdot, Inc. 
v. United States, 728 F.2d 593, 598 (2d Cir. 1984) (``Section 368(a)(1) 
is a definitional section, wholly distinct from [section] 354.''). As 
described in greater detail in part II.B of this Background, section 
368(a)(1) defines the term ``reorganization'' as seven specifically 
described types of transactions under subparagraphs (A) through (G). 
Qualification of a transaction (or series of transactions) for a 
definitional provision under section 368(a)(1) is the sole manner by 
which the application of an operative provision relating to a 
reorganization can occur. This statutory structure ensures that the 
tax-advantaged treatment provided by such operative provisions applies 
exclusively to those transactions that satisfy all statutory, 
regulatory, and judicial requirements for a particular definitional 
provision (for example, the continuity of interest and continuity of 
business enterprise requirements). As discussed in greater detail in 
part III of this Background, a primary purpose of the ``plan of 
reorganization'' requirement is to ensure that a transaction to which 
an operative provision is purported to apply is sufficiently connected 
to a reorganization defined in section 368(a)(1).

B. Section 368: Definitions Relating to Corporate Reorganizations

    Section 368(a)(1) is the primary definitional provision of 
subchapter C with regard to reorganizations. For purposes of parts I 
through III of subchapter C, section 368(a)(1) defines the term 
``reorganization'' to mean any of the seven types of transactions 
described in section 368(a)(1)(A) through (G), including triangular 
reorganizations (as defined in Sec.  1.358-6(b)(2)) that are variants 
of such transactions and divisive reorganizations described in section 
368(a)(1)(D) and (G). Section 368(a)(2) provides special rules that 
support the definitional provisions set forth in section 368(a)(1), and 
section 368(a)(3) similarly provides additional rules relating to title 
11 or similar cases.
    Section 368(b) and (c) also contains definitional provisions. For 
purposes of part III of subchapter C, section 368(b) generally defines 
the term ``a party to a reorganization'' to include (i) a corporation 
resulting from a reorganization, and (ii) both corporations, in the 
case of a reorganization resulting from the acquisition by one 
corporation of stock or properties of another. Section 368(b) defines 
other corporations as parties to a transaction depending on the type of 
transaction. See also Sec.  1.368-2(f).
    For purposes of subchapter C (other than sections 304 and 385 of 
the Code), section 368(c) defines the term ``control'' to mean the 
ownership of (i) stock possessing at least 80 percent of the total 
combined voting power of all classes of stock entitled to vote, and 
(ii) at least 80 percent of the total number of shares of all other 
classes of stock of the corporation. See also Rev. Rul. 59-259, 1959-2 
C.B. 115 (requiring

[[Page 5224]]

ownership of (i) stock possessing at least 80 percent of the total 
combined voting power of all classes of voting stock, and (ii) at least 
80 percent of the total number of shares of each class of outstanding 
non-voting stock).

C. Section 357: Assumptions of Liabilities by Transferee Corporations

1. Overview
    Section 357 is an operative provision that facilitates exchanges 
involving the assumption of liabilities by generally preventing such 
assumptions from (i) being treated as the receipt of money or other 
property in an exchange, and (ii) disqualifying the exchange for 
nonrecognition treatment. See section 357(a); see also the anti-abuse 
rule in section 357(b) and the adjusted basis limitation in section 
357(c). Section 357 reflects Congress's view that, ``[i]n typical 
transactions changing the form or entity of a business it is not 
customary to liquidate the liabilities of the business and such 
liabilities are almost invariably assumed by the corporation which 
continues the business,'' but that nonrecognition treatment in section 
357 should be limited solely to ``bona fide transactions of this 
type.'' H.R. Rep. No. 76-855, at 19 (1939) (Conf. Rep.).
2. Response to United States v. Hendler
    The original predecessor to current section 357, section 112(k) of 
the Internal Revenue Code of 1939 (1939 Code), was enacted by Congress 
as section 213(a) of the Revenue Act of 1939 (Public Law 76-155, 53 
Stat. 862, 870) to address the adverse consequences of judicial and 
taxpayer interpretations of the Supreme Court's decision in United 
States v. Hendler, 303 U.S. 564 (1938). See S. Rep. No. 76-648, at 3 
(1939) (referencing the Hendler opinion by name). In Hendler, the Court 
examined the Federal income tax consequences of a transaction that 
qualified as a reorganization under section 112 of the Revenue Act of 
1928 (Public Law 70-562, 45 Stat. 791). As part of the reorganization, 
the transferee corporation (Borden Company) assumed and paid the 
indebtedness of the transferor (Hendler Company). The Court regarded 
the assumption and payment in substance as though the Borden Company 
had made the payment directly to the Hendler Company. Hendler, 303 U.S. 
at 566. Based on that treatment, the Court viewed the Hendler Company 
in substance as receiving money or other property that it failed to 
distribute to its shareholders (because that payment was made to a 
Hendler Company creditor, albeit in form by the Borden Company). Id. 
Accordingly, the Court held that the Hendler Company recognized gain in 
the amount of that payment. Id. at 567.
    Following the Hendler decision, Congress observed that the Court's 
analysis had ``been broadly interpreted to require that, if a 
taxpayer's liabilities are assumed by another party in what is 
otherwise a tax-free reorganization, gain is recognized to the extent 
of the assumption.'' H.R. Rep. No. 76-855, at 19 (emphasis added). In 
other words, as successfully argued by the IRS in cases following 
Hendler, a transferee corporation's lack of payment of the liabilities 
was immaterial for the Hendler analysis to apply to treat the 
transferee corporation's assumption of a transferor's liabilities as a 
cash payment to the transferor. See Haass v. Comm'r, 37 B.T.A. 948, 955 
(1938). The IRS advocated for this broad interpretation in response to 
an aggressive position taken by taxpayers, who relied on the Hendler 
decision to argue that the basis of stock they had received in prior 
exchanges should be increased by the amount of gain that should have 
been recognized and taxed by reason of the transferee corporation's 
assumption of liabilities, even though that gain had not actually been 
taxed by the IRS (and that tax had not been paid).
    However, this broad interpretation jeopardized the nonrecognition 
treatment of bona fide assumptions carried out as part of 
reorganizations that Congress originally had intended to facilitate 
through the enactment of the reorganization provisions. See H.R. Rep. 
No. 76-855, at 19 (``Your committee therefore believes that such a 
broad interpretation as is indicated above will largely nullify the 
provisions of existing law which postpone the recognition of gain in 
such cases.'').
3. Enactment of Section 357(a) and (b)
    Congress enacted section 112(k) of the 1939 Code to balance (i) the 
need to facilitate the bona fide assumption of liabilities in 
transactions that satisfy the definitional requirements of a 
reorganization, with (ii) the need to minimize abusive tax planning 
through such assumptions (including through transitory transactions). 
Accordingly, section 112(k) of the 1939 Code provided for both (i) the 
general nonrecognition treatment adopted by section 357(a) of the 1954 
Code and set forth in current section 357(a), and (ii) a supporting 
anti-abuse provision adopted by section 357(b) of the 1954 Code and set 
forth in current section 357(b).
    Under section 357(b)(1), the total amount of liabilities assumed in 
an assumption described in section 357(a) is treated for purposes of 
section 351 or 361 (as applicable) as money received by the transferor 
in the exchange if it appears that the principal purpose of the 
transferor with respect to the assumption was (i) to avoid Federal 
income tax on the exchange, or (ii) not a bona fide business purpose. 
In effect, section 357(b) can apply to a transaction to preserve the 
treatment required by Hendler for such abusive assumptions.
    In making the determination required by section 357(b)(1), the 
nature of the liabilities and the circumstances under which the 
arrangement for the assumption was made are taken into account. In 
addition, section 357(b)(2) provides that, in any suit or proceeding in 
which the burden is on the transferor to prove that the liability 
assumption should not be treated as money received in the exchange, the 
transferor must meet that burden by a clear preponderance of the 
evidence.
4. Application of Section 357(b) to Divisive Reorganizations
    In Rev. Rul. 79-258, 1979-2 C.B. 143, the IRS considered the 
application of section 357(b) to the assumption by a newly formed 
transferee corporation (Controlled) of a liability incurred by the 
transferor (Distributing) in close temporal proximity to, and in 
anticipation of, a transaction that qualified as a divisive 
reorganization under sections 355 and 368(a)(1)(D). One of the 
Distributing liabilities that Distributing desired Controlled to assume 
was a $4,000x portion of a $25,000x long-term debt owed to an insurance 
company that Distributing had incurred in connection with the business 
transferred to Controlled, and that had been outstanding for several 
years before the divisive reorganization (historical Distributing 
debt). However, Distributing could not apportion the historical 
Distributing debt between it and Controlled because the insurance 
company refused to relieve Distributing of its primary liability for 
repayment.
    Therefore, in exchange for $4,000x in loan proceeds, Distributing 
issued a new long-term note for which Distributing was primarily liable 
to a bank (new Distributing debt). Distributing then caused Controlled 
to assume the new Distributing debt in the divisive reorganization, and 
Distributing was relieved of its primary repayment liability 
(Controlled assumption). The proceeds of the new Distributing debt were 
used by Distributing to pay off $4,000x of the historical Distributing 
debt. Distributing then distributed the Controlled stock to 
Distributing's shareholders.

[[Page 5225]]

    From Distributing's standpoint, having Controlled assume the new 
Distributing debt was desirable because, absent Controlled's assumption 
of this debt, Distributing's assets would be reduced by the value of 
the Controlled stock (which was distributed to Distributing's 
shareholders), but Distributing's liabilities would not be reduced by 
the $4,000x liability attributable to the business transferred to 
Controlled. As a result, Distributing's ability to borrow (and its 
ability to pay off the portion of the historical Distributing debt 
attributable to the business transferred to Controlled) could be 
adversely affected if Controlled did not assume the new Distributing 
debt.
    To determine the potential application of section 357(b), the IRS 
engaged in a detailed analysis of the facts and circumstances relating 
to the issuance of the new Distributing debt and the Controlled 
assumption. First, the IRS observed that Distributing used the proceeds 
of the new Distributing debt to satisfy $4,000x of the historical 
Distributing debt, thereby placing Distributing and Controlled in the 
same net economic position after the Controlled assumption as each 
corporation would have been in had Controlled been able to assume 
$4,000x of the historical Distributing debt. Second, the IRS observed 
that the incurrence of the new Distributing debt and the Controlled 
assumption not only were necessary to effectuate the divisive 
reorganization, but also were a normal adjunct to the divisive 
reorganization given the non-assumable nature of part of the historical 
Distributing debt. Third, the IRS observed that Distributing's 
incurrence of the new Distributing debt and the Controlled assumption 
merely were in substitution for Controlled's assumption of a pro rata 
portion of the historical Distributing debt that Controlled could not 
assume. In that regard, because the divisive reorganization resulted in 
Controlled assuming a liability in an amount that properly related to 
its business operations and would be satisfied from earnings generated 
by those operations, the IRS viewed the incurrence of the new 
Distributing debt and the Controlled assumption as consistent with 
sound business practice. Accordingly, the IRS concluded that tax 
avoidance was not a principal purpose of the transaction and, 
therefore, that section 357(b) did not apply to the Controlled 
assumption.
    Additionally, the IRS determined that the acquisition of the new 
Distributing debt and the Controlled assumption would not be viewed for 
Federal income tax purposes as if Controlled had obtained the new 
Distributing debt and transferred the proceeds to Distributing. In this 
regard, the IRS found it immaterial that Distributing and Controlled 
may have been able to arrange their affairs in another manner, because 
the taxpayer satisfied its burden of proof as required under section 
357(b). See Simpson v. Comm'r, 43 T.C. 900, 916 (1965) (stating that 
the application of section 357(b) is limited to transactions ``arranged 
primarily so that the assumption of the [transferor]'s liability in the 
transaction itself results in tax avoidance for the transferor, or has 
no bona fide business purpose,'' and that section 357(b) was not 
intended to require recognition of gain on bona fide transactions 
designed to rearrange one's business affairs in such a manner as to 
minimize taxes in the future, consistent with existing provisions of 
the law); ISC Industries, Inc. v. Comm'r, T.C. Memo. 1971-283 
(concluding that petitioner's principal purpose in having a new 
subsidiary assume liabilities placed upon the assets transferred to the 
subsidiary was not to avoid Federal income taxes on the transfer, but 
rather was to protect lines of credit for petitioner's finance 
business, and finding it immaterial that petitioner may have been able 
to arrange its affairs in another manner, or in a manner that produced 
more tax revenue, because section 357(b) clearly looks to the 
taxpayer's motives for doing what actually occurred).
5. Application of Section 357(c)
    In the case of an exchange to which section 351 applies (section 
351 exchange) or to which section 361 applies by reason of a divisive 
reorganization that qualifies under sections 355 and 368(a)(1)(D), 
section 357(c)(1) generally provides that, if the sum of the amount of 
the transferor's liabilities assumed by the transferee corporation 
exceeds the total adjusted basis of the assets transferred by the 
transferor to the transferee corporation in the exchange, then such 
excess is considered as a gain from the sale or exchange of a capital 
asset or of property that is not a capital asset, as the case may be. 
See also section 368(a)(3)(C) (providing that a reorganization that 
would qualify under both section 368(a)(1)(D) and (G) is treated as 
qualifying under section 368(a)(1)(D) for purposes of section 
357(c)(1)).
    However, section 357(c)(2) provides that the general rule in 
section 357(c)(1) does not apply to any exchange (i) to which section 
357(b) applies, or (ii) that is pursuant to a plan of reorganization 
within the meaning of section 368(a)(1)(G) in which no former 
shareholder of the transferor receives any consideration for its stock. 
Rev. Rul. 2007-8, 2007-1 C.B. 469, holds that the general rule in 
section 357(c)(1) does not apply to a section 351 exchange if that 
transaction also qualifies as a reorganization described in section 
368(a)(1)(A), (C), (D) (provided the requirements of section 354(b)(1) 
are satisfied), or (G) (provided the requirements of section 354(b)(1) 
are satisfied).
    Furthermore, under section 357(c)(3), if the transferor transfers 
in a section 351 exchange (including a divisive reorganization that 
overlaps with a section 351 exchange; see section 357(c)(3) 
(referencing an exchange to which section 357(c)(1) applies)) a 
liability the payment of which either would give rise to a deduction or 
would be described in section 736(a) of the Code (concerning payments 
made in liquidation of the partnership interest of a retiring or 
deceased partner), the amount of such liability is excluded in 
determining the amount of liabilities assumed under section 357(c)(1) 
unless the incurrence of the liability resulted in the creation of (or 
an increase in) the basis of any property. In addition, liabilities the 
payment of which would give rise to a capital expenditure are not 
included for purposes of section 357(c)(1) unless the incurrence of the 
liability resulted in the creation of (or an increase in) the basis of 
any property. See Rev. Rul. 95-74, 1995-2 C.B. 36.

D. Section 361: Distributions to Shareholders of Target Corporation

1. Overview
    Section 361 is an operative provision applicable to certain 
exchanges and distributions of property in a transaction that satisfies 
the definitional requirements for qualification as a reorganization 
under section 368(a)(1). Section 361(a) and (b) provides the Federal 
income tax consequences to a target corporation (such as a distributing 
corporation in a divisive reorganization) that (i) is a party to a 
reorganization, and (ii) pursuant to the plan of reorganization, 
exchanges property with an acquiring corporation (such as a controlled 
corporation in a divisive reorganization) that also is a party to the 
reorganization. Section 361(c) provides the Federal income tax 
consequences to the target corporation (such as a distributing 
corporation in a divisive reorganization) of the distribution by the 
target corporation to its shareholders, or transfer to its creditors, 
of certain property in pursuance of or in

[[Page 5226]]

connection with the plan of reorganization that includes the exchange 
of property with an acquiring corporation (such as a controlled 
corporation in a divisive reorganization) that also is a party to the 
reorganization. See the discussion in part III.A of this Background 
(noting that the phrases ``in pursuance of'' and ``in connection with'' 
in section 361 convey the same meaning).
2. Enactment of Section 361(a): Purely Paper Transactions
    The original predecessor to current section 361(a) was enacted by 
Congress as part of section 202(b) of the Revenue Act of 1918 (Pub. L. 
65-254, 40 Stat. 1057, 1060 (1919)). The applicable part of section 
202(b) of the Revenue Act of 1918 was subsequently incorporated in 
section 112 of the 1939 Code before being adopted as section 361(a) of 
the 1954 Code and thereafter as current section 361(a).
    Congress enacted the applicable part of section 202(b) of the 
Revenue Act of 1918 ``to establish the rule for determining taxable 
gains in the case of exchanges of property and to negate the assertion 
of tax in the case of certain purely paper transactions.'' S. Rep. No. 
65-617, at 5 (1918). As stated in the legislative history, the 
substance of the original predecessor to section 361(a) is that (i) 
when property is exchanged for other property, the property received in 
the exchange should be treated as the equivalent of cash in the amount 
of its fair market value, but (ii) when, in connection with the 
reorganization or consolidation of a corporation, a person receives, in 
place of stock or securities, new stock or securities of no greater 
aggregate par value, or when a person receives, in place of property, 
stock of a corporation formed to take over such property, no gain or 
loss should be deemed to occur from the exchange. See id. at 5-6.
    More than a century after the enactment of its original 
predecessor, section 361(a) continues to provide generally that a 
corporation (that is, the target corporation) that is a party to a 
reorganization (such as the distributing corporation in a divisive 
reorganization) recognizes no gain or loss if it exchanges property 
pursuant to the plan of reorganization solely for stock and securities 
in another corporation (that is, the acquiring corporation) that is a 
party to the reorganization (such as a controlled corporation in a 
divisive reorganization).
3. Enactment of Section 361(b): Conduit for Distribution to 
Shareholders
    The original predecessor to current section 361(b) was enacted by 
Congress as section 203(e) of the Revenue Act of 1924 (Pub. L. 68-176, 
43 Stat. 253, 256). Section 203(e) of the Revenue Act of 1924 was 
subsequently incorporated in section 112 of the 1939 Code before being 
adopted as section 361(b) of the 1954 Code and thereafter as current 
section 361(b).
    Congress enacted section 203(e) of the Revenue Act of 1924 to 
provide that (i) if the corporation that sells its assets in connection 
with the reorganization ``acts merely as a conduit'' in passing the 
sale proceeds on to its shareholders, no gain to the corporation is to 
be recognized, but (ii) if the corporation ``retains the entire amount 
of proceeds with the result that the transaction is in substance a real 
sale, then the gain shall be recognized.'' S. Rep. No. 68-398, at 16 
(1924). This stated policy is reflected in current section 361(b)(1).
    Section 361(b)(1)(A) provides that, if section 361(a) would apply 
to an exchange but for the fact that the property received by the 
target corporation also includes money or other property, no gain will 
be recognized by the target corporation if it distributes the money or 
other property pursuant to the plan of reorganization. Congress has 
enacted no limitation on the aggregate amount of cash and the fair 
market value of other property that a target corporation can distribute 
to its shareholders (as opposed to creditors) under section 
361(b)(1)(A) (although section 368 limits the amount of money or other 
property that may be received in certain corporate reorganizations).
    Section 361(b)(1)(B), which reflects congressional intent with 
respect to a target corporation's failure to act solely as a conduit in 
distributing the sale proceeds (that is, money or other property) to 
its shareholders, provides that the target corporation (such as the 
distributing corporation in a divisive reorganization) recognizes gain 
in an amount that does not exceed the sum of the money and fair market 
value of the other property that the corporation fails to distribute 
pursuant to the plan of reorganization.
4. Section 361(c): Distributions of Appreciated Property to Target 
Corporation Shareholders
    Section 361(c) originally was enacted by Congress as section 
1804(g)(1) of the Tax Reform Act of 1986. As part of a wholesale 
rewrite of section 361, Congress amended section 361(c) by enacting 
section 1018(d)(5)(A) of the Technical and Miscellaneous Revenue Act of 
1988 (Pub. L. 100-647, 102 Stat. 3342, 3578) so that the statute 
``conforms the treatment of distributions of property by a corporation 
to its shareholders in pursuance of a plan of reorganization to the 
treatment of nonliquidating distributions (under section 311).'' S. 
Rep. No. 100-445, at 393 (1988).
    Section 311(a) generally provides that, except as provided in 
section 311(b) (concerning distributions of appreciated property), no 
gain or loss is recognized by a corporation on the distribution (not in 
complete liquidation) with respect to its stock of (i) its stock (or 
rights to acquire its stock), or (ii) property. Accordingly, section 
361(c)(1) generally provides that, except as provided in section 
361(c)(2) (concerning distributions of appreciated property), no gain 
or loss is recognized by a target corporation that is a party to a 
reorganization upon a distribution of property to its shareholders 
pursuant to a plan of reorganization.
    Consistent with section 311(b), section 361(c)(2)(A) provides that, 
if the target corporation distributes property other than qualified 
property in a distribution described in section 361(c)(1), and if the 
fair market value of that other property exceeds the corporation's 
adjusted basis in that other property, then gain is recognized by the 
target corporation as if the property were sold to the distributee at 
its fair market value. The term ``qualified property'' is defined in 
section 361(c)(2)(B) to mean (i) any stock, right to acquire stock, or 
obligation (including a security) of the corporation, and (ii) any 
stock, right to acquire stock, or obligation (including a security) of 
another corporation that is a party to the reorganization received by 
the target corporation in the exchange.
    Therefore, although a target corporation would recognize no gain on 
an exchange described in section 361(a) (section 361(a) exchange) if 
that corporation received appreciated non-qualified property and 
distributed that property to its shareholders pursuant to section 
361(b)(1)(A), that corporation nonetheless would recognize gain on the 
distribution to its shareholders under section 361(c)(2)(A). If any 
such property is subject to a liability, or if the shareholder assumes 
a liability of the target corporation in connection with the 
distribution, section 361(c)(2)(C) provides that the fair market value 
of that property is treated as not less than the amount of that 
liability for purposes of section 361(c)(2)(A).

[[Page 5227]]

5. Safe Harbors for Transfers to Creditors of the Distributing 
Corporation
    Congress added section 361(b)(3) and (c)(3) as part of the 
wholesale rewrite of section 361 in the Technical and Miscellaneous 
Revenue Act of 1988. Section 361(b)(3) provides that, for purposes of 
section 361(b)(1), any transfer of the money or other property received 
in the exchange by the target corporation to its creditors in 
connection with the reorganization is treated as a distribution 
pursuant to the plan of reorganization. Similarly, section 361(c)(3) 
provides that, for purposes of section 361(c), any transfer of 
qualified property by the target corporation to its creditors in 
connection with the reorganization is treated as a distribution to its 
shareholders pursuant to the plan of reorganization.
6. Response to Supreme Court's Decision in Minnesota Tea Company
    In Minnesota Tea Co. v. Helvering, 302 U.S. 609 (1938), the Supreme 
Court held that a distribution by a target corporation to its 
shareholders of cash received from an acquiring corporation in a 
reorganization was not a qualifying ``distribution'' for purposes of 
the predecessor to section 361(b)(1)(A), because the shareholders 
immediately used that distributed cash to pay the target corporation's 
creditors as part of a prearranged plan. Citing Gregory v. Helvering, 
293 U.S. 465, 469 (1935), as providing the ``controlling principle'' 
for its decision, the Court determined that the payment of 
indebtedness, and not the distribution of dividends, ``was, from the 
beginning, the aim of the understanding with the stockholders and was 
the end accomplished by carrying that understanding into effect.'' 
Minnesota Tea, 302 U.S. at 613-14. Because the Minnesota Tea Company 
``received the same benefit as though it had retained that amount from 
[the] distribution and applied it to the payment of such 
indebtedness,'' the Court concluded that the company failed to satisfy 
the predecessor to section 361(b)(1)(A). See id. at 613 (emphasis 
added).
    In describing the rationale for enacting section 361(b)(3) and 
(c)(3), the legislative history explains that each provision 
``overrules the holding in Minnesota Tea Company v. Helvering.'' S. 
Rep. No. 100-445, at 393 n.102 (1988); see also H.R. Rep. 100-795, at 
372 (1988). The legislative history described the substance of the safe 
harbor in section 361(b)(3) as providing that ``transfers of property 
to creditors in satisfaction of the corporation's indebtedness in 
connection with the reorganization are treated as distributions 
pursuant to the plan of reorganization for this purpose.'' S. Rep. No. 
100-445, at 393 (1988) (emphasis added). Likewise, the legislative 
history described the corresponding safe harbor in section 361(c)(3) as 
providing that ``the transfer of qualified property by a corporation to 
its creditors in satisfaction of indebtedness is treated as a 
distribution pursuant to the plan of reorganization.'' Id. (emphasis 
added). By treating transfers of property to creditors in satisfaction 
of indebtedness as distributions pursuant to the plan of 
reorganization, Congress balanced the dual policy objectives of (i) 
preserving consistency with the fundamental requirement of section 361 
that property be distributed, and (ii) enacting a provision to address 
transfers to creditors in satisfaction of indebtedness that overruled 
the holding in Minnesota Tea.
7. Adjusted Basis Limitation for Purposes of Section 361(b)(3)
    In the case of a divisive reorganization described in sections 355 
and 368(a)(1)(D), the third sentence in section 361(b)(3) (adjusted 
basis limitation) limits the extent to which a transfer of money or 
other property to a creditor is treated as a distribution pursuant to 
the plan of reorganization for the purposes of section 361. 
Specifically, section 361(b)(3) applies solely to the extent the sum of 
the money and the fair market value of the other property transferred 
to creditors of the distributing corporation does not exceed the 
aggregate adjusted bases of the assets transferred to the controlled 
corporation in the section 361(a) exchange, reduced by the amount of 
the distributing corporation's liabilities that the controlled 
corporation actually assumes within the meaning of section 357(c).
    Congress enacted the adjusted basis limitation in section 361(b)(3) 
as part of the American Jobs Creation Act of 2004 (Pub. L. 108-357, 118 
Stat. 1418) based on the concern stated in the legislative history that 
taxpayers had developed tax-planning strategies to circumvent the 
adjusted basis limitation in section 357(c) on actual assumptions by 
controlled corporations in divisive reorganizations. See S. Rep. No. 
108-192, at 185 (2003). Specifically, the committee report observed 
that a distributing corporation (i) could cause the controlled 
corporation to borrow money from a financial institution and transfer 
that money to the distributing corporation in the section 361(a) 
exchange, and then (ii) could use that money to pay its creditors. Id. 
The committee report concluded that, although this series of 
transactions does not involve an actual assumption by the controlled 
corporation within the meaning of section 357, it is ``economically 
similar to the actual assumption'' because, at the end of the series of 
transactions, the distributing corporation has reduced its indebtedness 
to its creditor and the controlled corporation has become indebted to a 
creditor (albeit a different creditor) for an equal amount. See id. 
Accordingly, ``because section 361(b) [did] not contain a limitation on 
the amount that can be distributed to creditors,'' Congress limited the 
scope of the section 361(b)(3) safe harbor to ``the amount of the basis 
of the assets contributed to a controlled corporation in a divisive 
reorganization.'' Id.
8. Express Grant of Authority
    As stated previously in the Authority section of this preamble, the 
second sentence of section 361(b)(3) provides the Secretary with an 
express grant of authority to prescribe such regulations as may be 
necessary to prevent avoidance of Federal income tax through abuse of 
the safe harbors in section 361(b)(3) and (c)(3). Congress included 
this grant of authority in section 361(b)(3) when Congress enacted both 
provisions as part of the Technical and Miscellaneous Revenue Act of 
1988.

III. Plan of Reorganization; Party to a Reorganization

A. Overview

    For more than a century, the ``plan of reorganization'' requirement 
has served to limit the application of the operative provisions in 
subchapter C solely to those transactions with a sufficiently proximate 
relationship to transactions that satisfy the definitional requirements 
in subchapter C for a reorganization (proximate relationship 
requirement). For example, see section 202(b) of the Revenue Act of 
1918 (providing that an exchange did not qualify for nonrecognition 
treatment unless the transaction was ``in connection with'' a 
reorganization). In other words, Congress has long viewed the proximate 
relationship requirement as an integral tool for preventing the 
nonrecognition provisions in subchapter C from applying to transactions 
to which general gain or loss provisions of the Code (for example, 
section 1001 of the Code) should apply.
    This long-standing congressional purpose is illustrated by the 
evolution of section 202(c)(1) of the Revenue Act

[[Page 5228]]

of 1921 (Pub. L. 67-98, 42 Stat. 227). That provision originally 
provided nonrecognition treatment for an exchange of property held for 
investment or for productive use in a trade or business, with no 
exception for stock or securities, and with no proximate relationship 
requirement. Tax advisors took advantage of this provision by 
structuring exchanges of portfolio investment securities for other 
securities in transactions that resulted in no recognition of Federal 
income tax. After receiving a request from the Treasury Department to 
address this abuse, Congress amended section 202(c)(1) by removing 
exchanges of stock and securities from nonrecognition treatment except 
for exchanges occurring in the context of a reorganization. See An Act 
to Amend the Revenue Act of 1921 in Respect to Exchanges of Property, 
Public Law 67-545, 42 Stat. 1560 (1923); J. Seidman, Legislative 
History of Federal Income Tax Laws: 1938-1861, at 798 (1938); see also 
Letter from A. W. Mellon, Secretary of the Treasury, to Congressman 
William R. Green, Acting Chairman of the Committee on Ways and Means 
(Jan. 13, 1923).
    Since first establishing the proximate relationship requirement, 
Congress has implemented that requirement through various linguistic 
formulations over time. However, Congress has indicated that such 
variations in language were not intended to reflect substantive 
differences. For example, Congress replaced ``in connection with'' in 
section 202(b) of the Revenue Act of 1918 with ``in the 
reorganization'' in section 202(c) of the Revenue Act of 1921. When 
describing section 202(c) of the Revenue Act of 1921, a congressional 
committee print explicitly referred to the proximate relationship under 
that section as requiring an ``in connection with'' relationship. See 
S. Comm. on Finance, 68th Cong., Statement of the Changes Made in the 
Revenue Act of 1921 by H.R. 6715 and the Reasons Therefor, at 5-6 
(Comm. Print 1924).
    In section 203(c) of the Revenue Act of 1924, Congress restated the 
proximate relationship requirement as requiring an ``in pursuance of a 
plan of reorganization'' relationship. This requirement, like the ``in 
connection with'' requirement, exists in the current definitional and 
operative provisions of subchapter C. The legislative history 
underlying section 203 of the Revenue Act of 1924 explicitly refers to 
the ``in pursuance of the plan of reorganization'' formulation in 
several instances as ``in connection with the reorganization.'' See 
H.R. Rep. No. 68-179, at 13-16 (1924). In particular, at one point, the 
Committee on Ways and Means described the change in formulation of the 
proximate relationship requirement as a result of ``minor changes in 
phraseology.'' See id. at 13.

B. Definition of ``Plan of Reorganization''

    The term ``plan of reorganization'' is not defined in subchapter C. 
Instead, the sole authoritative guidance defining this term is set 
forth in the Income Tax Regulations. Specifically, Sec.  1.368-2(g) 
provides that the term ``plan of reorganization'' refers to a 
``consummated transaction specifically defined as a reorganization 
under section 368(a),'' and that ``[s]ection 368(a) contemplates 
genuine corporate reorganizations which are designed to effect a 
readjustment of continuing interests under modified corporate forms.'' 
Section 1.368-2(g) further provides that the term ``plan of 
reorganization'' ``is not to be construed as broadening the definition 
of reorganization as set forth in section 368(a),'' but rather ``is to 
be taken as limiting the nonrecognition of gain or loss to such 
exchanges or distributions as are directly a part of the transaction 
specifically described as a reorganization in section 368(a).'' Section 
1.368-2(g) further provides that the transaction (or series of 
transactions) ``embraced in a plan of reorganization must not only come 
within the specific language of section 368(a),'' but also that ``the 
readjustments involved in the exchanges or distributions effected in 
the consummation [of the plan of reorganization] must be undertaken for 
reasons germane to the continuance of the business of a corporation a 
party to the reorganization.''
    However, significant uncertainty and confusion have arisen 
regarding the scope, purpose, and application of Sec.  1.368-2(g). As 
expressed by the Tax Court in an observation often referenced by courts 
and commentators, ``the above definition is imbued with qualities of 
flexibility and vagueness, with the result that it does not present 
precise self-executing guidelines.'' Int'l Telephone & Telegraph Corp. 
v. Comm'r, 77 T.C. 60, 75 (1981); see also J.E. Seagram Corp. v. 
Comm'r, 104 T.C. 75, 96 (1995) (relying on the quote in Int'l Telephone 
in observing that Sec.  1.368-2(g) provides ``substantial 
elasticity''). As a result, Sec.  1.368-2(g) (including its proximate 
relationship requirement) has created significant uncertainty and 
confusion for taxpayers and the IRS in determining the scope of 
transactions that properly should be taken into account for purposes of 
applying the definitional and operative provisions of subchapter C.
    Section 1.368-1(c) further describes the ``plan of reorganization'' 
concept and provides important context regarding the application of 
this concept and its embedded proximate relationship requirement. 
Specifically, Sec.  1.368-1(c) provides, in part, that ``[t]he 
provisions of [part III of subchapter C] referred to in this paragraph 
are inapplicable unless there is a plan of reorganization'' (emphasis 
added). Section 1.368-1(c) further provides that ``[a] plan of 
reorganization must contemplate the bona fide execution of one of the 
transactions specifically described as a reorganization in section 
368(a) and for the bona fide consummation of each of the requisite acts 
under which nonrecognition of gain is claimed.'' That transaction, and 
those acts, must be an ``ordinary and necessary incident of the conduct 
of the enterprise and must provide for a continuation of the 
enterprise.'' Id. Finally, Sec.  1.368-1(c) provides that a scheme 
involving ``an abrupt departure from normal reorganization procedure in 
connection with a transaction on which the imposition of tax is 
imminent, such as a mere device that puts on the form of a corporate 
reorganization as a disguise for concealing its real character, and the 
object and accomplishment of which is the consummation of a 
preconceived plan having no business or corporate purpose, is not a 
plan of reorganization.''
    Consistent with the discussion in part III.A of this Background, 
Sec.  1.368-1(c) reflects the function of the ``plan of 
reorganization'' concept and its embedded proximate relationship 
requirement--namely, to limit the application of the definitional and 
operative provisions of subchapter C to those transactions included in 
the plan of reorganization. Section 1.368-1(c) also requires all 
transactions properly included in the plan of reorganization to be 
consistent with, and to facilitate satisfaction of, a principal 
requirement for nonrecognition treatment under the reorganization 
provisions of subchapter C (that is, the continuation of an 
enterprise). Finally, Sec.  1.368-1(c) reflects that devices and sham 
transactions cannot properly be included in a plan of reorganization.

C. Party to a Reorganization

    Section 368(b) generally provides that the term ``a party to a 
reorganization'' includes (i) a corporation resulting from a 
reorganization, and (ii) both corporations, in the case of a 
reorganization resulting from the

[[Page 5229]]

acquisition by one corporation of stock or properties of another. 
Consistent with section 368(b), Sec.  1.368-2(f) defines the term 
``party to a reorganization'' as including ``a corporation resulting 
from a reorganization, and both corporations in a transaction 
qualifying as a reorganization where one corporation acquires stock or 
properties of another corporation.'' Section 1.368-2(f) further 
articulates which entities are parties to a reorganization in various 
types of reorganizations defined in section 368(a)(1). However, the 
uncertainty regarding the meaning of ``plan of reorganization,'' 
described in part III.B of this Background, has resulted in confusion 
regarding the proper identification of parties to a reorganization.

D. Reporting and Recordkeeping Requirements for Corporate 
Reorganizations

    Section 1.368-3 sets forth reporting and recordkeeping requirements 
for corporate reorganizations. Section 1.368-3(a) requires a plan of 
reorganization to be adopted by each corporation that is a party to the 
reorganization, and it requires each such corporation to include a 
statement with its Federal income tax return that includes certain 
limited information about the reorganization. However, Sec.  1.368-3(a) 
provides no additional detail on the manner in which the plan of 
reorganization must be adopted, and it does not require the plan of 
reorganization to be reflected in any documentation or records of the 
parties to the reorganization.
    Current Sec.  1.368-3(a) contrasts starkly with a prior version of 
Sec.  1.368-3(a), which provided that the plan of reorganization ``must 
be adopted by each of the corporations parties thereto; and the 
adoption must be shown by the acts of its duly constituted responsible 
officers, and appear upon the official records of the corporation.'' 
See Sec.  1.368-3(a) (effective from November 26, 1960, to May 29, 
2006) (prior Sec.  1.368-3(a)).
    Prior Sec.  1.368-3(a) also imposed additional requirements to 
facilitate the IRS's administration of the reorganization provisions in 
part III of subchapter C. In particular, prior Sec.  1.368-3(a) 
required the parties to a reorganization to file with the IRS a ``copy 
of the plan of reorganization, together with a statement, executed 
under the penalties of perjury, showing in full the purposes thereof 
and in detail all transactions incident to, or pursuant to, the plan.'' 
In contrast, taxpayers currently are not required by Sec.  1.368-3 to 
provide as part of their Federal income tax return a plan of 
reorganization that describes the transactions to which taxpayers 
intend to apply the nonrecognition provisions of subchapter C.
    In addition, prior Sec.  1.368-3(a) required taxpayers to file with 
the IRS ``a complete statement of all facts pertinent to the 
nonrecognition of gain or loss in connection with the reorganization.'' 
Current Sec.  1.368-3(a) contains no such requirement. Therefore, the 
IRS currently does not receive as part of a taxpayer's Federal income 
tax return a statement of facts necessary to determine the proper 
application of the nonrecognition provisions of subchapter C to the 
transactions comprising a corporate reorganization.
    Instead, current Sec.  1.368-3(a) merely requires each corporate 
party to a reorganization to include a statement, on or with its return 
for the taxable year of the exchange, that includes: (i) the names and 
employer identification numbers (if any) of all such parties; (ii) the 
date of the reorganization; (iii) the value and basis of the assets, 
stock, or securities of the target corporation transferred in the 
transaction, determined immediately before the transfer in the manner 
described in Sec.  1.368-3(a); and (iv) the date and control number of 
any one or more private letter rulings issued by the IRS in connection 
with the reorganization. Current Sec.  1.368-3(b) imposes similar 
requirements on significant holders of stock or securities of the 
target corporation.
    Like prior Sec.  1.368-3(c), current Sec.  1.368-3(d) requires 
taxpayers to retain their permanent records with respect to a corporate 
reorganization.

IV. TIGTA Report To Improve Enforcement of Corporate M&A Transactions

    In 2019, the Treasury Inspector General for Tax Administration 
(TIGTA) published a report titled ``A Strategy Is Needed to Assess the 
Compliance of Corporate Mergers and Acquisitions With Federal Tax 
Requirements,'' Ref. No. 2019-30-050 (Sept. 5, 2019) (TIGTA Report). In 
that report, TIGTA considered the scope of information required to be 
provided under Sec.  1.368-3(a) and expressed that ``the forms 
previously detailed represent only a small portion of the information 
that may be filed, and certain forms used to report merger and 
acquisition (M&A) transactions may not be providing sufficient 
information to identify noncompliance.'' Id. at 14-15.
    Accordingly, TIGTA recommended that, if the IRS finds that the 
current forms do not contain information sufficient for identifying 
potential noncompliance in M&A transactions, the IRS ``should consider 
amending the filing criteria and information required in the forms to 
develop useful compliance tools.'' Id. at 14. The IRS agreed with this 
recommendation, stating that it will continue to consider how to use 
M&A transaction information in its compliance efforts.

V. Reporting Requirements for Section 355 Transactions

    In a notice of proposed rulemaking (REG-116085-23) published 
elsewhere in the Proposed Rules section of this issue of the Federal 
Register, the Treasury Department and the IRS are issuing proposed 
regulations to revise current Sec.  1.355-5 (proposed Sec.  1.355-5) to 
enhance the IRS's ability to administer and enforce the requirements of 
section 355. Similar to current Sec.  1.368-3 (previously discussed in 
part III.D of this Background), current Sec.  1.355-5 requires the 
distributing corporation and each significant distributee (as defined 
in current Sec.  1.355-5(c)(1)) to include a statement with its tax 
return that includes certain limited information about the section 355 
transaction. To implement the recommendation in the TIGTA Report 
described in part IV of this Background, proposed Sec.  1.355-5 would 
require taxpayers to submit new IRS Form 7216, Multi-Year Reporting 
Related to Section 355 Transactions (or any successor form), to provide 
the IRS with additional information to help the IRS identify potential 
noncompliance in section 355 transactions.

VI. Revenue Procedure 2024-24 and Notice 2024-38

    On May 2, 2024, the Treasury Department and the IRS released Rev. 
Proc. 2024-24, 2024-21 I.R.B. 1214, to provide procedures for 
requesting private letter rulings from the IRS regarding certain 
matters relating to section 355 transactions. Rev. Proc. 2024-24 
superseded Rev. Proc. 2018-53, 2018-43 I.R.B. 667, and made several 
significant changes to the requirements of that revenue procedure and 
to Rev. Proc. 2017-52, 2017-41 I.R.B. 283.
    Also on May 2, 2024, the Treasury Department and the IRS released 
Notice 2024-38, 2024-21 I.R.B. 1211, to describe their views and 
concerns relating to certain matters addressed in Rev. Proc. 2024-24, 
and to solicit feedback on the provisions set forth in Rev. Proc 2024-
24. In section 2.01 of Notice 2024-38, the Treasury Department and the 
IRS requested that such feedback take into account the

[[Page 5230]]

following three objectives for potential future guidance: (i) the 
guidance will be consistent with all relevant provisions of the Code 
(compliance objective); (ii) the guidance will provide certainty to 
taxpayers and the IRS regarding the application of all relevant 
provisions of the Code to purported section 355 transactions (increased 
certainty objective); and (iii) the guidance will be responsive to the 
manner in which section 355 transactions are engaged in by taxpayers 
and reflect current market practices and preferences (transaction 
facilitation objective), to the extent that such approach does not 
conflict with the first two objectives.

Explanation of Provisions

    The purpose of these proposed regulations is to establish a 
comprehensive set of rules to implement certain core definitional and 
operative provisions of subchapter C that address corporate 
separations, incorporations, and reorganizations. The current 
regulatory framework underlying these provisions is incomplete, 
outdated, and not reflective of their importance to the Federal 
corporate income tax system, given the trillions of dollars of 
corporate transactions governed by these statutory provisions. Due to 
the lack of up-to-date regulatory guidance, taxpayers and the IRS must 
rely on a patchwork of caselaw, IRS revenue rulings and revenue 
procedures, and non-authoritative IRS documents to discern the current 
state of the law with respect to these core provisions of subchapter C.
    Accordingly, providing comprehensive regulatory guidance to 
facilitate the implementation of these core definitional and operative 
provisions of subchapter C would promote taxpayer certainty and sound 
tax administration. Although Notice 2024-38 focused on Federal income 
tax issues regarding section 355 transactions, these core definitional 
and operative provisions also address incorporations and acquisitive 
reorganizations. Therefore, the proposed regulations would implement 
those statutory provisions for all corporate M&A transactions, in a 
manner that reflects the three objectives described in section 2.01 of 
Notice 2024-38 (that is, the compliance objective, the increased 
certainty objective, and the transaction facilitation objective) in 
accordance with their respective priorities as set forth therein.
    A principal objective of the Treasury Department and the IRS in 
issuing these proposed regulations is to significantly improve 
horizonal equities among taxpayers and tax advisors. In other words, 
based on feedback from tax advisors, the lack of authoritative guidance 
in this area effectively has transformed a taxpayer's option to request 
a private letter ruling on the application of certain definitional and 
operative provisions into a requirement. Indeed, tax advisors have 
directly reached out to the Treasury Department and the IRS to 
emphasize the mandatory nature of private letter rulings on certain 
topics in this area because, based on the current state of 
authoritative guidance, those tax advisors could not provide tax 
opinions at a sufficient level of comfort in the absence of a private 
letter ruling. Therefore, these tax advisors have stressed the 
importance of engaging in bar association panels and other professional 
speaking engagements to access the perspectives of Treasury Department 
and IRS officials regarding the government's current views on certain 
fundamental corporate tax issues.
    These proposed regulations would provide, through publicly 
accessible authoritative guidance, core definitional and operative 
provisions. This guidance is intended to facilitate the ability for 
taxpayers to achieve increased comfort on the Federal income tax 
treatment of their corporate M&A transactions without the need for a 
private letter ruling. Just as importantly, this guidance is intended 
to encourage the submission of private letter ruling requests and 
facilitate the IRS private letter ruling process. In particular, these 
proposed regulations are intended to help direct the focus of tax 
advisors to those issues that raise significant Federal income tax 
compliance concerns, and consequently improve the organization and 
focus of their private letter ruling submissions. Similarly, these 
proposed regulations are intended to increase the efficiency of the 
private letter ruling program by allowing submission reviewers to focus 
primarily on such significant issues, rather than those issues that 
would be addressed directly by this guidance.
    In explaining the provisions of these proposed regulations, this 
Explanation of Provisions discusses issues described in Notice 2024-38 
and the feedback received in response to Notice 2024-38. Such feedback 
has informed the development of these proposed regulations. This 
Explanation of Provisions also references proposed regulations, 
published elsewhere in the Proposed Rules section of this issue of the 
Federal Register, that would implement enhanced reporting requirements 
for section 355 transactions. Those enhanced reporting requirements are 
integral to the proposed substantive guidance set forth in these 
proposed regulations. Specifically, as described further in this 
Explanation of Provisions, this proposed substantive guidance reflects 
the long-standing reality that corporate transactions typically are 
carried out over multiple taxable years. The increased transactional 
flexibility that would be provided by these proposed regulations is 
conditioned on the IRS's ability to track the execution of these 
transactions throughout their lifecycle, and the enhanced reporting 
requirements for section 355 transactions would facilitate the IRS's 
ability to carry out its administrative function with respect to these 
transactions.

I. Distinction Between Delayed Distributions and Retentions; Rules for 
Qualifying Retentions

A. Notice 2024-38

    Section 2.02(1) of Notice 2024-38 stated the view of the Treasury 
Department and the IRS that the Code provides separate and distinct 
treatment for three instances in which a distributing corporation 
temporarily continues to hold controlled corporation stock or 
securities following the date on which the distributing corporation has 
distributed an amount of controlled corporation stock constituting 
control (within the meaning of section 368(c)) (control distribution 
date). These three instances are: (i) a delayed distribution of 
controlled corporation stock or securities that is ``part of the 
distribution'' (within the meaning of section 355(a)(1)(D)); (ii) a 
delayed distribution of controlled corporation stock or securities that 
is ``in pursuance of the plan of reorganization'' (within the meaning 
of section 361); and (iii) a retention of controlled corporation stock 
or securities.
    Section 2.02(2) of Notice 2024-38 stated the view of the Treasury 
Department and the IRS that section 355(a)(1)(D) effectively creates a 
rebuttable presumption that any retention evidences a plan to achieve a 
Federal income tax avoidance purpose. Section 2.02(2) of Notice 2024-38 
also stated that the Treasury Department and the IRS are considering 
the degree to which connections between the distributing corporation 
and the controlled corporation (and, as appropriate, the DSAG and the 
CSAG) after the control distribution date would prevent a transaction 
from qualifying under section 355. (The terms ``DSAG'' and ``CSAG'' 
mean the separate affiliated group (as defined in section 355(b)(3)(B)) 
of which the distributing

[[Page 5231]]

corporation or the controlled corporation, respectively, is the common 
parent.)
    Section 2.02(2) of Notice 2024-38 also stated the view of the 
Treasury Department and the IRS that overlapping directors, officers, 
or key employees and the existence of continuing contractual agreements 
between the distributing corporation (and other members of the DSAG) 
and the controlled corporation (and other members of the CSAG) that 
include provisions that are not arm's-length weigh against a 
determination of qualification under section 355.

B. Stakeholder Input

1. Existence of Rebuttable Presumption Under Section 355(a)(1)(D)(ii)
    As an initial matter, some stakeholders have contended that section 
355(a)(1)(D)(ii) does not create a rebuttable presumption that a 
retention evidences a plan with a principal purpose of avoiding Federal 
income tax, notwithstanding the explicit statutory requirement that the 
Secretary must be satisfied that such a purpose does not exist. 
Instead, these stakeholders have asserted that Congress's intent in 
including the ``no tax avoidance purpose'' language in section 
355(a)(1)(D)(ii) is unclear, and that the legislative history of 
section 355 does not give further details about the meaning of this 
language.
    Accordingly, these stakeholders have suggested that, rather than 
include a rebuttable presumption, the proposed regulations should place 
greater emphasis on (i) an examination of the corporate business 
purpose for the section 355 transaction, and (ii) a determination of 
whether the retained controlled corporation stock is disposed of as 
``part of the distribution'' (see section 355(a)(1)(D)) or ``in 
pursuance of the plan of reorganization'' (see section 361(c)). These 
stakeholders contend that their view is supported by sections 354, 355, 
and 361, as well as by Sec.  1.368-2(g), which requires readjustments 
involved in the exchanges or distributions effected in consummating a 
plan of reorganization to be ``undertaken for reasons germane to the 
continuance of the business of a corporation a party to the 
reorganization.''
2. Application of Plan of Reorganization With Regard to Section 
355(a)(1)(D)(ii)
    Stakeholders also have requested clarification in the proposed 
regulations that all delayed distributions, whether before or after the 
control distribution date, are treated as part of the distribution 
(within the meaning of section 355(a)(1)(D)) if they are effectuated 
pursuant to the plan of reorganization. Relatedly, stakeholders have 
recommended that the proposed regulations employ the same standard 
(that is, the same level of proximate relationship) in considering 
whether a transaction is ``part of the distribution'' and ``in 
pursuance of a plan of reorganization.'' Stakeholders have further 
requested confirmation in the proposed regulations that the ``no tax 
avoidance purpose'' requirement in section 355(a)(1)(D)(ii) applies 
only to the extent a delayed distribution fails to qualify under the 
operative provisions.
    Based on their analogy to their view of the ``plan of 
reorganization'' concept, these stakeholders have contended that the 
``as part of the distribution'' requirement in section 355(a)(1)(D) 
provides substantial flexibility to the distributing corporation 
regarding the timing and manner of dispositions of controlled 
corporation stock (for example, in a delayed distribution of controlled 
corporation stock to shareholders of the distributing corporation). In 
this regard, stakeholders have recommended that the phrase ``as part of 
the distribution'' be interpreted to provide section 355 qualification 
for situations in which the distributing corporation contemplates--but 
provides no further level of commitment to--a spectrum of potential 
dispositions of controlled corporation stock, so long as the 
distributing corporation eventually achieves one or more of those 
contemplated possibilities or related variants. As described by such 
stakeholders, the distributing corporation need not identify the timing 
of those dispositions (regardless of whether they span multiple taxable 
years of the distributing corporation), the potential recipients of 
controlled corporation stock (for example, creditors of the 
distributing corporation), or the method of disposing of that stock.
    The stakeholder input described in the foregoing paragraphs 
ultimately focuses on two aspects of the IRS private letter ruling 
program for section 355 transactions: (i) the requirement set forth in 
section 3.03(3)(a)(ii) of Rev. Proc. 2024-24 (the so-called ``pick a 
lane'' requirement); and (ii) the elimination under that revenue 
procedure of so-called ``backstop retention rulings.''
    With regard to the ``pick a lane'' requirement, these stakeholders 
read section 3.03(3)(a)(ii) of Rev. Proc. 2024-24 as providing that the 
IRS will entertain a request for rulings that: (i) a delayed 
distribution of controlled corporation stock or securities will be, as 
applicable, ``part of the distribution'' (within the meaning of section 
355(a)(1)(D)) or ``in pursuance of the plan of reorganization'' (within 
the meaning of section 361); and (ii) a retention of controlled 
corporation stock or securities that is not included in a ruling 
request described in clause (i) of this sentence will not be in 
pursuance of a plan having as one of its principal purposes the 
avoidance of Federal income tax (within the meaning of section 
355(a)(1)(D)(ii)). Stakeholders have further stated that, to comply 
with the so-called ``pick a lane'' requirement, a taxpayer must specify 
the portions of controlled corporation stock remaining after the 
control distribution (i) to which the taxpayer intends section 361(c) 
to apply, and (ii) which the taxpayer intends to retain and not dispose 
of under section 361(c). See section 3.03(3)(d) of Rev. Proc. 2024-24.
    In practice, the ``pick a lane'' requirement requires a taxpayer to 
identify to the IRS those transactions that the taxpayer intends to 
carry out as part of its plan of reorganization. However, stakeholders 
have contended that this requirement is problematic because Rev. Proc. 
2024-24 also has eliminated the availability of ``backstop retention 
rulings,'' which stakeholders have described as ``protective rulings'' 
affording taxpayers a determination by the IRS, before the first step 
of a divisive reorganization, that a retention at no point will have 
failed to satisfy the ``no tax avoidance purpose'' requirement in 
section 355(a)(1)(D)(ii).
    Stakeholders have contended that these changes in private letter 
ruling policy, combined with the requirement that all controlled 
corporation stock or securities be distributed within 12 months of the 
date of the first distribution (first distribution date) to receive a 
ruling that the distribution qualifies for nonrecognition treatment 
under section 355 (see section 3.03(2)(b)(ii) of Rev. Proc. 2024-24), 
have created an unnecessary risk for taxpayers that an intended 
divisive reorganization could fail to qualify under section 355 
(section 355(a)(1)(D)(ii) risk). For purposes of these proposed 
regulations, the term ``first distribution'' means the earliest 
distribution in a series of distributions made pursuant to the plan of 
distribution or plan of reorganization, as appropriate.
    Specifically, these stakeholders have asserted that, because 
transactions intended to qualify for nonrecognition treatment under 
section 361(c) often require most of a year to complete, tax advisors 
now are faced with three undesirable options. First, tax advisors could 
recommend the premature

[[Page 5232]]

termination of such transactions, which otherwise would have been 
effectuated for bona fide business purposes for corporate taxpayers. 
Second, tax advisors could attempt, in an unreasonably short timeframe, 
to receive from the IRS a supplemental private letter ruling that the 
``springing retention'' (that is, a retention that arises unexpectedly 
during the 12-month period) satisfies the ``no tax avoidance purpose'' 
requirement. Third, tax advisors could provide an opinion that the 
springing retention satisfies the ``no tax avoidance purpose'' 
requirement, notwithstanding the lack of authoritative guidance on that 
issue.

C. Proposed Regulations

    Consistent with the statement in section 2.02(2) of Notice 2024-38, 
proposed Sec.  1.355-10(c)(1) would reflect the presumption that a 
retention is pursuant to a plan having as one of its principal purposes 
the avoidance of Federal income tax. However, the Treasury Department 
and the IRS appreciate the views of stakeholders regarding delayed 
distributions and retentions. In particular, the Treasury Department 
and the IRS are sensitive to the potential negative impacts of the 
``pick a lane'' requirement and related requirements in Rev. Proc. 
2024-24 on divisive reorganizations, and to the lack of clear, 
authoritative guidance regarding the ``no tax avoidance purpose'' 
requirement of section 355(a)(1)(D)(ii). Therefore, and consistent with 
the compliance, increased certainty, and transaction facilitation 
objectives of these proposed regulations, the Treasury Department and 
the IRS have proposed rules to address the uncertainty highlighted by 
stakeholders in a manner that facilitates the ability of (i) taxpayers 
to carry out bona fide section 355 transactions, and (ii) the IRS to 
ensure that such transactions comply with all requirements of the Code.
1. Proposed Safe Harbor To Address Section 355(a)(1)(D)(ii) Risk
a. Overview
    In response to stakeholder concerns regarding the section 
355(a)(1)(D)(ii) risk, these proposed regulations would provide a safe 
harbor that incorporates objectively verifiable conditions for 
retentions not to be treated as pursuant to a plan having as one of its 
principal purposes the avoidance of Federal income tax (qualifying 
retentions). The Treasury Department and the IRS have proposed this 
safe harbor to enable taxpayers to satisfy the requirements of section 
355(a)(1)(D)(ii) with greater certainty even in the absence of a 
private letter ruling from the IRS--thereby achieving an increased 
certainty and transaction facilitation objectives. For taxpayers that 
do not satisfy the requirements of the proposed safe harbor, the 
proposed regulations would provide for a general facts-and-
circumstances determination for whether a retention is a qualifying 
retention.
b. Section 355(a)(1)(D)(ii) Safe Harbor
    Under the section 355(a)(1)(D)(ii) safe harbor in proposed Sec.  
1.355-10(c)(3), a distributing corporation would be treated as 
satisfying the general facts-and-circumstances test in proposed Sec.  
1.355-10(c)(2)(ii) for a qualifying retention if all six of the 
following conditions are satisfied. First, the distributing corporation 
must have a specific corporate business purpose for the retention as of 
the date of adoption of the plan of distribution or plan of 
reorganization, as appropriate, and at all times during the period of 
retention. Second, stock of the controlled corporation must be widely 
held during the period of retention after the first distribution date. 
Third, any overlap between the officers, directors, or key employees of 
the DSAG and of the CSAG must be limited in the manner described in 
proposed Sec.  1.355-10(c)(3)(iv). Fourth, any continuing arrangements 
between the distributing corporation and the controlled corporation 
during the period of retention either (i) must be negotiated on and 
reflect arm's-length terms, or (ii) within two years after the first 
distribution date, must be terminated or renegotiated to reflect arm's-
length terms. Fifth, the plan of distribution or plan of 
reorganization, as appropriate, must reflect a definite intent in the 
official records of the distributing corporation that the distributing 
corporation dispose of all retained controlled corporation stock (or 
securities) by the end of the five-year period beginning on the first 
distribution date. Sixth, the disposition of retained controlled 
corporation stock (or securities) must not result in less Federal 
income tax to the distributing corporation (determined based on the 
fair market value and adjusted basis of that stock (or securities) as 
of the first distribution date) than if that stock (or securities) had 
been distributed in the first distribution. The distributing 
corporation must include in its plan of distribution or plan of 
reorganization (as applicable) a description of each agreement and 
transaction that establishes the satisfaction of the foregoing six 
conditions.
c. Rationale for Section 355(a)(1)(D)(ii) Safe Harbor
    The safe harbor in proposed Sec.  1.355-10(c)(3) is intended to 
balance taxpayers' need for certainty with the IRS's need to ensure 
taxpayer compliance with section 355(a)(1)(D)(ii). As discussed in part 
IV of the Background, TIGTA recommended that the IRS consider amending 
the filing criteria and information required in current forms to 
develop useful compliance tools. The inclusion of objective 
requirements in the section 355(a)(1)(D)(ii) safe harbor is consistent 
with both TIGTA's recommendation and the compliance, increased 
certainty, and transaction facilitation objectives for guidance 
described in section 2.01 of Notice 2024-38.
    Moreover, under proposed Sec.  1.355-5 and new IRS Form 7216 (see 
part V of the Background), and consistent with the recommendation in 
the TIGTA Report, a taxpayer would be required to report key 
information that would enable the IRS to ensure that the taxpayer, 
during each taxable year of the retention period, continues to comply 
with the requirements of the section 355(a)(1)(D)(ii) safe harbor. 
Thus, the section 355(a)(1)(D)(ii) safe harbor, coupled with the 
enhanced reporting requirements for section 355 transactions, would 
increase taxpayer certainty (by reducing the so-called section 
355(a)(1)(D)(ii) risk) and would facilitate IRS administration of 
section 355(a)(1)(D)(ii). The Treasury Department and the IRS are of 
the view that these two proposals would significantly help achieve all 
three objectives of these proposed regulations.
    The proposed regulations would not incorporate the stakeholders' 
recommendation that the requirements of section 355(a)(1)(D)(ii) be 
treated as satisfied so long as the distributing corporation disposes 
of all controlled corporation stock pursuant to the plan of 
reorganization. Such an approach would conflict with long-standing 
Sec.  1.355-2(e)(2), which requires the consideration of factors aside 
from the manner in which the distributing corporation disposes of its 
retained controlled corporation stock (for example, if the distribution 
would be treated to any extent as a distribution of ``other property'' 
under section 356). The stakeholders' recommendation would not be 
consistent with section 355(a)(1)(D)(ii), because that recommendation, 
by itself, would not ensure a genuine separation.
    In addition, the proposed regulations would not incorporate 
stakeholders' recommendation that a strong corporate

[[Page 5233]]

business purpose for a section 355 transaction be treated as sufficient 
to satisfy the requirements under section 355(a)(1)(D)(ii). This 
suggestion is inconsistent with the plain reading of the statute, which 
requires a determination that the avoidance of Federal income tax was 
not a principal purpose of the retention. In other words, the 
distributing corporation could possess a strong corporate business 
purpose for the section 355 transaction in general and for the 
retention in particular, and yet also possess a principal purpose for 
the retention of avoiding Federal income tax.
    Ultimately, the stakeholders' recommended approaches would conflict 
with the purpose of section 355(a)(1)(D), which is to ensure genuine 
separations between the distributing and controlled corporations--a 
policy reflected in the legislative history of section 355(a)(1)(D) and 
the long-standing view of the Treasury Department and the IRS regarding 
that purpose as fundamental to all section 355 transactions. The 
legislative history of section 355(a)(1)(D) indicates that Congress's 
initial preference was to provide no exception to the complete-
distribution requirement under section 355(a)(1)(D)(i), and that the 
exception for retentions originated through a subsequent Senate 
amendment. See H.R. Rep. No. 83-1337, at A121 (1954); S. Rep. No. 83-
1622, at 266 (1954). Indeed, Treasury regulations that predated the 
enactment of section 355(a)(1)(D), and that tax advisors have 
acknowledged as the basis for section 355(a)(1)(D), provided that the 
business reasons supporting a distribution of controlled corporation 
stock ordinarily required the distribution of all controlled 
corporation stock owned by the distributing corporation. See Sec.  
29.112(b)(11)-2(c) of Regulation 111 (issued under section 112(b)(11) 
of the 1939 Code, the predecessor to section 355 of the 1954 Code); see 
also Sec.  1.355-2(e)(2), which continues to reflect this language). 
Long-standing revenue rulings and general counsel memoranda also 
reflect the view that, under the plain reading of section 
355(a)(1)(D)(ii), Congress intended to subject retentions to heightened 
scrutiny to ensure that the section 355 transaction effectuates a 
genuine separation of the distributing corporation and the controlled 
corporation. See Rev. Rul. 75-469; Rev. Rul. 75-321; see also G.C.M. 
32136 (Oct. 23, 1961).
2. Facts-and-Circumstances Test for Determining Compliance With Section 
355(a)(1)(D)(ii)
    If a taxpayer fails to satisfy the requirements of the section 
355(a)(1)(D)(ii) safe harbor in proposed Sec.  1.355-10(c)(3), the 
taxpayer may establish compliance with section 355(a)(1)(D)(ii) through 
satisfaction of the facts-and-circumstances test in proposed Sec.  
1.355-10(c)(2)(ii). As with qualification for the proposed section 
355(a)(1)(D)(ii) safe harbor, satisfaction of the proposed facts-and-
circumstances test would require a determination that the distributing 
corporation and the controlled corporation have genuinely separated, 
among other requirements. This proposed facts-and-circumstances 
approach combined with the proposed safe harbor would provide taxpayers 
and the IRS with increased certainty regarding the application of 
section 355(a)(1)(D)(ii).
    Under the facts-and-circumstances approach of proposed Sec.  1.355-
10(c)(2)(ii), the distributing corporation first must establish that 
the distribution resulted in a genuine separation of the DSAG and the 
CSAG. Second, the distributing corporation must establish that the 
retention does not allow the DSAG to retain any practical control over 
the CSAG. Third, there must be a sufficient corporate business purpose 
for the retention as of the date the plan of distribution or the plan 
of reorganization (as applicable) is adopted. Fourth, there must be a 
sufficient corporate business purpose for the retention at all times 
during the period of retention. Fifth, the disposition of retained 
controlled corporation stock (or securities) must not result in less 
Federal income tax to the distributing corporation (determined based on 
the fair market value and adjusted basis of that stock (or securities) 
as of the first distribution date) than if that stock (or securities) 
had been distributed in the first distribution.
    Consistent with the views set forth in section 2.02(2) of Notice 
2024-38, the existence of (i) overlapping officers, directors, or key 
employees between the DSAG and the CSAG, and (ii) non-arm's-length 
continuing contractual agreements between the DSAG and the CSAG, would 
be facts and circumstances indicating that the retention fails the 
requirements under section 355(a)(1)(D)(ii). For purposes of proposed 
Sec.  1.355-10(c)(2)(ii), the relative weight of those indicia would 
depend upon all facts and circumstances, including the corporate 
business purpose for the section 355 transaction. For example, such 
continuing relationships particularly would weigh against a 
determination that the retention satisfies the requirements under 
section 355(a)(1)(D)(ii) if the purported corporate business purpose 
for the section 355 transaction is so-called ``fit and focus'' (that 
is, a separation to enhance the success of the separated businesses by 
resolving management, systemic, or other problems that arise by virtue 
of the distributing corporation's operation of different businesses 
within a single corporation or affiliated group).
3. Consistent Voting Requirements
    Regardless of whether a section 355 transaction qualifies for the 
section 355(a)(1)(D)(ii) safe harbor, if the section 355 transaction 
involves a retention, proposed Sec.  1.355-10(c)(2)(iii) would require 
the DSAG to vote any retained controlled corporation stock in 
proportion to the votes cast by the controlled corporation's other 
shareholders (other than persons related to the distributing 
corporation). This proposed requirement is consistent with the long-
standing position of the Treasury Department and the IRS with regard to 
section 355(a)(1)(D)(ii), as expressed through several revenue rulings, 
revenue procedures, and other sub-regulatory guidance.
4. Plan of Distribution
    Consistent with long-standing guidance, the Treasury Department and 
the IRS continue to agree with stakeholders that the plan of 
reorganization is relevant for determining the applicability of the 
definitional and operative provisions under subchapter C to 
dispositions of controlled corporation stock. Compare Rev. Rul. 2002-
85, 2002-2 C.B. 986 (concluding that an acquiring corporation's 
contribution of a target corporation's assets to a subsidiary 
corporation subsequent to a transaction otherwise qualifying as a 
reorganization under section 368(a)(1)(D) was ``pursuant to the plan of 
reorganization''; therefore, the continuity of business enterprise 
(COBE) requirement was not violated); Rev. Rul. 69-142, 1969-1 C.B. 107 
(concluding that an acquiring corporation's exchange of its debentures 
for those held by bondholders of the target corporation was not part of 
the reorganization exchange; therefore, the ``solely for voting stock'' 
requirement in section 368(a)(1)(B) was satisfied). In this regard, the 
``plan of reorganization'' concept provides a useful analogy for 
distinguishing distributions to which section 355 should apply from 
those to

[[Page 5234]]

which other sections of the Code (such as section 311) should apply.
    Accordingly, proposed Sec.  1.355-4 would set forth a series of 
provisions pursuant to which a taxpayer would establish its plan of 
distribution for distributions to which section 355(c) is purported to 
apply. These proposed rules generally would parallel the proposed plan 
of reorganization provisions in proposed Sec.  1.368-4, as discussed in 
more detail in part III.C of this Explanation of Provisions.
    Specifically, under the proposed rules, section 355 would apply to 
those distributions that are properly included in the plan of 
distribution and, therefore, are treated as ``part of the 
distribution'' within the meaning of section 355(a)(1)(D). Thus, for 
example, proposed Sec.  1.355-4(d)(2)(iii) would provide that 
distributions that are carried out in close temporal proximity with a 
section 355(c) distribution are not properly included in the plan of 
distribution and therefore would not qualify for nonrecognition 
treatment under section 355 unless Federal income tax principles 
(including the step transaction doctrine) would apply to determine that 
those distributions are in substance part of the plan of distribution 
for the section 355(c) distribution.
    Additionally, a distribution that is merely one of several (if not 
more) contemplated possibilities would not be properly included in the 
plan of distribution. Instead, proposed Sec.  1.355-4(d)(1) would 
require the distributing corporation to evidence a definite intent to 
carry out the distribution through a written commitment in one or more 
official records that substantiate the plan of distribution. As 
previously discussed in part I.B of this Explanation of Provisions, the 
Treasury Department and the IRS disagree with the stakeholders' view 
that a plan of distribution should reflect mere transactional 
possibilities under a ``wait and see'' approach. Adoption of this 
stakeholder recommendation would conflict with the requirement of 
section 355(a)(1)(D)(ii) that the non-tax avoidance nature of a 
retention be ``established to the satisfaction of the Secretary,'' 
because it would not be possible for the Secretary to establish the 
actual nature of a hypothetical transaction. In addition, adopting this 
stakeholder recommendation would both significantly compromise the 
IRS's ability to administer and enforce the requirements of section 355 
and reduce certainty regarding section 355 qualification.
    Under proposed Sec.  1.355-4(a)(2)(i) and (b)(1), the term ``plan 
of distribution'' generally would mean a plan of distribution 
established by a distributing corporation that satisfies all 
requirements set forth in proposed Sec.  1.355-4(c) and that is filed 
with the IRS pursuant to proposed Sec.  1.355-5. Proposed Sec.  1.355-
4(a)(2)(iii) and (b)(2) would provide that a plan of distribution also 
may be established based on corrections to the taxpayer-filed plan by 
the Commissioner based on all relevant facts and circumstances, all 
relevant provisions of the Code, and general principles of Federal 
income tax law (including the step transaction doctrine). If the 
taxpayer fails to file a plan of distribution under proposed Sec.  
1.355-5, proposed Sec.  1.355-4(a)(2)(iv) and (b)(2) would provide that 
the Commissioner may identify a plan of distribution for the 
transaction.
    Consistent with the objectives for guidance described in section 
2.01 of Notice 2024-38, the proposed plan of distribution provisions 
are intended to facilitate taxpayer certainty in identifying 
distributions to which section 355 properly should be applied. See, for 
example, proposed Sec.  1.355-4(c)(3)(i)(B) (providing a safe harbor 
presumption for timely prosecuting the plan of distribution) and (d) 
(providing rules for determining whether a distribution is properly 
included in the plan of distribution).
    In addition, the plan of distribution would provide the IRS with a 
single, timely document that identifies all relevant distributions 
necessary to determine the appropriate Federal income tax treatment of 
the purported section 355(c) distribution. This proposal, combined with 
the enhanced reporting requirements for section 355 transactions under 
proposed Sec.  1.355-5, would reestablish an appropriate line of sight 
for the IRS into taxpayer compliance under section 355, thereby helping 
to achieve the compliance and increased certainty objectives. Compare 
former Sec.  1.355-5 (effective from November 26, 1960, to May 29, 
2006) (requiring the taxpayer to ``attach to its return for the year of 
the distribution a detailed statement setting forth such data as may be 
appropriate in order to show compliance with the provisions of [section 
355]'').
5. Treatment of Delayed Distributions and Retentions
    The Treasury Department and the IRS appreciate the feedback 
received from stakeholders regarding the similarities between delayed 
distributions and retentions. The Treasury Department and the IRS agree 
with stakeholders that, because a section 355 transaction requires the 
distribution of controlled corporation stock by the distributing 
corporation, each of the following could apply to the same transaction: 
(i) the ``part of the distribution'' requirement in section 
355(a)(1)(D); (ii) the ``in pursuance of the plan of reorganization'' 
requirement in section 361; and (iii) the retention requirements in 
section 355(a)(1)(D)(ii).
    In particular, the Treasury Department and the IRS share the 
stakeholders' view that, if the distributing corporation does not 
distribute all its controlled corporation stock in the first 
distribution, the ``delayed distribution'' and ``retention'' labels 
give rise to a distinction without a difference in determining the 
existence of a genuine separation between the distributing corporation 
and the controlled corporation. In this respect, proposed Sec.  1.355-
2(e)(2)(iii) would focus on whether a genuine separation has occurred, 
without regard to whether the controlled corporation stock not 
distributed as part of the first distribution is disposed of through a 
distribution or transfer under section 361(c) or a taxable sale under 
section 1001.
    However, the Treasury Department and the IRS continue to view the 
``part of the distribution'' requirement in section 355(a)(1)(D), the 
``in pursuance of the plan of reorganization'' requirement in section 
361, and the ``no tax avoidance purpose'' requirement in section 
355(a)(1)(D)(ii) as discrete requirements that address discrete issues 
reflective of discrete policies. The ``part of the distribution'' 
requirement in section 355(a)(1)(D) serves as a scoping provision for 
the applicability of section 355(a)(1)(D)(i) and (ii) to distributions 
of controlled corporation stock. As discussed in parts I.C.4 and III.C 
of this Explanation of Provisions, the proposed plan of distribution 
and plan of reorganization rules would facilitate the determination of 
which distributions are ``part of the distribution.''
    As reflected in the legislative history of section 361, the ``in 
pursuance of the plan of reorganization'' requirement serves in large 
part to limit the application of the operative provisions in subchapter 
C to those transactions with a sufficiently proximate relationship with 
transactions that qualify under a definitional provision in subchapter 
C. See part II.A of the Background.
    Lastly, the ``no tax avoidance purpose'' requirement in section 
355(a)(1)(D)(ii) serves to ensure there is a genuine separation of the 
distributing corporation and the controlled corporation in situations 
in which the distributing corporation continues to

[[Page 5235]]

hold controlled corporation stock following the first distribution. 
This requirement applies regardless of whether that controlled 
corporation stock is disposed of pursuant to the plan of reorganization 
under section 361(c).
6. Timing Requirement for Control Distribution
    Consistent with the Supreme Court's decision in Gordon (discussed 
in part I.D.2 of the Background), proposed Sec.  1.355-2(e)(2) would 
require a distributing corporation, pursuant to a plan of distribution 
or plan of reorganization, as appropriate, to distribute an amount of 
stock of the controlled corporation constituting control (within the 
meaning of section 368(c)) either (i) within a single taxable year, or 
(ii) over two taxable years, but only if all distributions up to and 
including the control distribution are effectuated pursuant to a 
binding commitment that is described in the plan of distribution or 
plan of reorganization (as applicable). A two-year limitation for 
distributing control would provide taxpayers with additional 
transactional flexibility while facilitating the IRS's ability to 
administer and enforce the requirements of section 355. This approach 
would help achieve the increased certainty and transaction facilitation 
objectives of these proposed regulations.
7. Requirements for Nonrecognition Treatment
    In accordance with the foregoing discussion in this part I.C, these 
proposed regulations would revise Sec.  1.355-2(e) to provide that a 
distribution does not qualify for nonrecognition treatment under 
section 355(a)(1) unless the following requirements are satisfied. 
First, proposed Sec.  1.355-2(e)(2)(i) and (ii) would provide that the 
distributing corporation must distribute an amount of stock of the 
controlled corporation constituting control (within the meaning of 
section 368(c)) either (i) within a single taxable year, or (ii) during 
two taxable years, subject to the ``binding commitment'' requirement 
described in part I.C.6 of this Explanation of Provisions. Second, 
proposed Sec.  1.355-2(e)(2)(iii) would provide that any controlled 
corporation stock not distributed as part of the first distribution 
must satisfy the requirements for a qualifying retention in proposed 
Sec.  1.355-10(c).
    As previously discussed in parts I.C.1 through 3 of this 
Explanation of Provisions, to satisfy the requirements for a qualifying 
retention (and to thereby rebut the presumption of a tax avoidance 
purpose for the retention), the distributing corporation must: (i) 
either qualify for the section 355(a)(1)(D)(ii) safe harbor in proposed 
Sec.  1.355-10(c)(3) or satisfy the facts-and-circumstances test in 
proposed Sec.  1.355-10(c)(2)(ii); and (ii) vote any retained 
controlled corporation stock in proportion to votes cast by the 
controlled corporation's other shareholders (other than distributing 
corporation related persons). See proposed Sec.  1.355-10(c)(2)(iii).

II. Non-Substantive Modifications to Section 355 Regulations

    These proposed regulations would make certain non-substantive 
revisions to current Sec. Sec.  1.355-1 and 1.355-4. For example, these 
proposed regulations would modify current Sec.  1.355-1 by adding 
general definitions that apply for purposes of the section 355 
regulations, incorporating the rules in current Sec.  1.355-4 as 
proposed Sec.  1.355-1, and moving the applicability dates from current 
Sec.  1.355-1(a) to proposed Sec.  1.355-1(e). These revisions are not 
intended to make any substantive change.

III. Plan of Reorganization; Party to a Reorganization

A. Notice 2024-38

    As stated in section 2.02(4) of Notice 2024-38, the Treasury 
Department and the IRS understand that confusion and disagreement 
exists regarding the application of the ``plan of reorganization'' 
requirement to divisive reorganizations. For example, some stakeholders 
view the applicability of the ``plan of reorganization'' requirement to 
be potentially obviated by the temporal requirements set forth in 
section 3.04(6) of Rev. Proc. 2018-53 (concerning delayed satisfaction 
of distributing corporation debt). It is the view of the Treasury 
Department and the IRS that this is incorrect.
    Section 2.02(4) of Notice 2024-38 further states that, although the 
``plan of reorganization'' requirement incorporates a degree of 
transactional flexibility, such flexibility is limited by current 
Sec. Sec.  1.368-1(c) and 1.368-2(g), and the Treasury Department and 
the IRS view this requirement as helpful to ensure that delayed 
distributions are not used to avoid the repeal of the General Utilities 
doctrine (see part I.A.2 of the Background).

B. Stakeholder Input

    The Treasury Department and the IRS have received a broad spectrum 
of feedback from stakeholders regarding the ``plan of reorganization'' 
requirement. However, consistent with the view of the Treasury 
Department and the IRS set forth in Notice 2024-38, stakeholders 
uniformly have contended that this requirement should be applied in a 
flexible manner.
    Certain stakeholders have described the guidance in current Sec.  
1.368-2(g) regarding the meaning and scope of the ``plan of 
reorganization'' requirement as circular and incomplete. Those 
stakeholders similarly have described Sec.  1.368-1(c) as providing 
only conceptual guidance as to which transactions are properly included 
in a plan of reorganization. These stakeholders also have described 
Sec.  1.368-3(a) as requiring each party to the reorganization to adopt 
that plan but then failing to provide any guidance on how such parties 
are to satisfy that requirement. Stakeholders have aptly noted that 
Notice 2024-38 provided little additional clarity regarding the ``plan 
of reorganization'' requirement.
    Additionally, certain stakeholders have noted that few cases 
address the meaning and scope of the ``plan of reorganization'' 
concept, and that, even within such cases, courts often have applied 
the step transaction doctrine and the substance-over-form doctrine to 
determine the existence of a plan of reorganization. For example, one 
stakeholder highlighted King Enterprises, Inc. v. United States, 418 
F.2d 511 (Ct. Cl. 1969), in which the U.S. Court of Federal Claims 
applied the step transaction doctrine to treat the acquisition of stock 
of a target corporation (Tenco), followed by the merger of the target 
corporation into the acquiring corporation (Minute Maid), as a 
reorganization qualifying under section 368(a)(1)(A). The court 
identified the threshold issue as ``whether the transfer of Tenco stock 
to Minute Maid is to be treated for tax purposes as an independent 
transaction of sale, or as a transitory step in a transaction 
qualifying as a corporate reorganization,'' which dictated the 
resolution of the central issue of ``whether the initial exchange of 
stock was a step in a unified transaction pursuant to a `plan of 
reorganization'.'' King Enterprises, 418 F.2d at 514-15. Based on an 
analysis of the ``operative facts in this case,'' the court applied the 
step transaction doctrine to conclude that the two transactions 
comprised a single, unified transaction. Id. at 515-16, 519. Even 
though no formal plan of reorganization existed, the court relied on 
those facts and that analysis to identify a plan of reorganization for 
that unified transaction. Id. at 519 n.11 (relying on Redfield v. 
Commissioner, 34 B.T.A. 967 (1936), for the proposition

[[Page 5236]]

that ``[a] formal plan or reorganization is not necessary if the facts 
of the case show a plan to have existed'').
    In Seagram Corp. v. Commissioner, 104 T.C. 75 (1995), the Tax Court 
considered whether to integrate (i) an acquisition of stock of a target 
corporation (Conoco) through a first-step tender offer made by a 
subsidiary of an acquiring corporation (DuPont Tenderor and DuPont, 
respectively), and (ii) a subsequent merger of Conoco into DuPont 
Tenderor. The court acknowledged that the tender offer and subsequent 
merger each possessed independent significance, and that the subsequent 
merger was subject to several contingencies. Seagram, 104 T.C. at 93-
94. However, the court emphasized that DuPont and DuPont Tenderor 
``were under a binding and irrevocable commitment to complete the 
culminating merger--the second step--upon the successful completion of 
the DuPont tender offer--the first step.'' Id. at 98. Based on all 
facts and circumstances of the tender offer and subsequent merger, 
including official records of DuPont and DuPont Tenderor, the court 
identified the existence of a plan of reorganization, reasoning that, 
``because DuPont was contractually committed to undertake and complete 
the second-step merger once it had undertaken and completed the first-
step tender offer, these carefully integrated transactions together 
constituted a plan of reorganization within the contemplation of 
section 354(a).'' Id. at 98-99 (relying principally on, and noting 
satisfaction of, the Supreme Court's binding commitment standard in 
Gordon).
    Stakeholders also have noted that the Tax Court in Seagram 
characterized the ``plan of reorganization'' concept expressed in Sec.  
1.368-2(g) as one of ``substantial elasticity,'' relying on the court's 
prior observations on that concept in Int'l Telephone. Seagram, 104 
T.C. at 96. (In Int'l Telephone, the Tax Court noted that Sec.  1.368-
2(g) ``is imbued with qualities of flexibility and vagueness, with the 
result that it does not present precise self-executing guidelines.'' 77 
T.C. at 75.) The Tax Court in Seagram also relied on scholarly 
commentary for the proposition that, even though Sec.  1.368-2(g) at 
that time required a plan of reorganization to be filed with the IRS, 
it was self-evident that the IRS and the courts could identify the 
existence of a plan of reorganization in the event the taxpayer either 
did not file one or filed one that was inaccurate. See Seagram, 104 
T.C. at 96 (quoting Peter L. Faber, The Use and Misuse of the Plan of 
Reorganization Concept, 38 Tax L. Rev. 515, 523 (1982-1983)).
    Stakeholders also have commented on temporal considerations 
relating to plans of reorganization. Stakeholders have contended that 
the length of time between transactions effectuating a plan of 
reorganization should not prevent any particular transaction from being 
considered part of the plan. Conversely, these stakeholders have 
contended that the temporal proximity of one transaction to another 
transaction that is properly included in a plan of reorganization 
should not be determinative as to whether the other transaction is 
properly included in the plan. Stakeholders also have contended that 
imposing a time limitation for completing a plan of reorganization 
would be inappropriate.
    Additionally, some stakeholders have recommended granting taxpayers 
the flexibility to either execute the steps identified in the plan of 
reorganization or change them at any time, based on each taxpayer's 
judgment on how best to achieve the objectives of their transaction. 
However, other stakeholders have recommended clarifying that entering 
into a new transaction not contemplated by the plan, even in the 
alternative, is not treated as pursuant to the plan of reorganization.
    In sum, stakeholders uniformly have described the current 
regulations addressing the ``plan of reorganization'' requirement as 
lacking sufficient clarity and comprehensiveness. Accordingly, some 
stakeholders have requested guidance regarding the metrics needed for a 
taxpayer to establish a plan of reorganization. Specifically, 
stakeholders have requested guidance regarding (i) the means by which 
parties to a reorganization can adopt a plan of reorganization (in 
particular, some stakeholders have recommended allowing actions of a 
corporation's authorized representatives, and not just formal written 
actions of the board, to be taken into account for this purpose), (ii) 
transactions that may occur at a future time, are contingent, or are in 
the alternative, and (iii) transactions that may develop as a result of 
events arising after the plan of reorganization is adopted.
    The stakeholder input received has highlighted not only the 
deficiencies in authoritative guidance regarding the meaning and scope 
of the ``plan of reorganization'' requirement, but also the importance 
of this requirement in determining whether the operative provisions of 
subchapter C apply to a particular transaction.

C. Proposed Regulations

1. Overview
    The Treasury Department and the IRS agree with stakeholders that 
the current guidance regarding the ``plan of reorganization'' 
requirement is inadequate and creates significant confusion. Consistent 
with stakeholder recommendations, the proposed regulations would 
clarify, among other items, (i) the metrics needed for a taxpayer to 
establish a plan of reorganization, (ii) the manner whereby parties to 
a reorganization can adopt a plan of reorganization, and (iii) the 
requirements for prosecuting a plan of reorganization (including in the 
event of a change in circumstances following adoption of the plan). In 
proposing this guidance, the Treasury Department and the IRS have 
endeavored to balance the importance of providing taxpayers with 
transactional flexibility to effectuate bona fide business transactions 
with the need to facilitate IRS administration of the reorganization 
provisions of subchapter C. Accordingly, the Treasury Department and 
the IRS believe that this guidance would help achieve the compliance, 
increased certainty, and transaction facilitation objectives of these 
proposed regulations. (See the discussion of the objectives for 
guidance in part VI of the Background; see also the discussion of the 
TIGTA Report in part IV of the Background.)
2. Proposed Rules Regarding Plan of Reorganization
a. Purpose and Effect of Plan of Reorganization
    The Treasury Department and the IRS view a plan of reorganization 
as serving two related purposes. First, a plan of reorganization serves 
to identify those transactions to which the definitional and operative 
provisions of subchapter C apply. Second, a plan of reorganization 
serves to distinguish transactions the Federal income tax treatment of 
which is governed by the reorganization provisions of subchapter C from 
transactions to which the general recognition provisions of the Code 
(such as section 1001) apply.
    However, under the proposed regulations, a taxpayer's failure to 
set forth a plan of reorganization in a single, comprehensive document 
neither would be determinative as to the existence or scope of a plan 
of reorganization for a transaction nor would govern the application of 
any definitional or operative provision to that transaction. See 
proposed Sec.  1.368-4(a)(3).

[[Page 5237]]

b. Determination of Plan of Reorganization
    The proposed regulations would permit a plan of reorganization to 
be determined in several different manners. Under the manner preferred 
by the Treasury Department and the IRS, a taxpayer would prepare a 
single, comprehensive document that satisfies all requirements set 
forth in proposed Sec.  1.368-4(d) and file that document with the IRS 
as required by proposed Sec.  1.368-3(a)(5) (taxpayer-filed plan of 
reorganization). See proposed Sec.  1.368-4(b)(1). The taxpayer-filed 
plan of reorganization would contain the information required by prior 
and current Sec.  1.368-3(a) and incorporate recommendations of the 
TIGTA Report.
    Specifically, proposed Sec.  1.368-4(d) would set forth the 
following requirements. First, the proposal would require the taxpayer-
filed plan of reorganization to identify (i) all parties to the 
reorganization (as required by current Sec.  1.368-3(a)), (ii) all 
transactions properly included in the plan of reorganization (as 
required by prior Sec.  1.368-3(a)), and (iii) all liabilities 
(including debt) to be assumed by the acquiring corporation and the 
obligees (or creditors) of those liabilities, and (iv) all debt of the 
target corporation that will be satisfied with section 361 
consideration and the creditors of that debt. Second, the proposal 
would require such plan to describe the intended Federal income tax 
treatment of those transactions (which would facilitate implementing 
the recommendations of the TIGTA Report). Third, the proposal would 
require such plan to describe the corporate business purpose for each 
transaction (consistent with current Sec.  1.368-2(g)). Lastly, the 
proposal would require such plan to establish that each transaction 
facilitates the continuance of the business of a corporation a party to 
the reorganization (consistent with current Sec.  1.368-2(g)). See 
proposed Sec.  1.368-4(d)(1).
    The proposed regulations would reflect a preference that taxpayers 
will timely file a complete and accurate plan of reorganization. See 
proposed Sec.  1.368-4(c)(1). Accordingly, the Federal income tax 
consequences of the subject transactions generally would be determined 
in accordance with that plan. See proposed Sec.  1.368-4(a)(2)(i). 
Throughout the duration of the transaction or series of transactions, 
which potentially could span several taxable years, the IRS would 
possess the ability to monitor the taxpayer's execution of that plan of 
reorganization (for example, through the taxpayer's annual filing of 
Form 7216 for divisive transactions). The Treasury Department and the 
IRS intend the proposed approach (i) to increase taxpayer certainty 
regarding the Federal income tax treatment of transactions properly 
included in a plan of reorganization, and (ii) to facilitate IRS 
administration of the reorganization provisions of subchapter C.
    However, if a taxpayer files a plan of reorganization with the IRS 
that fails to satisfy any requirement set forth in proposed Sec.  
1.368-4(d), or if the taxpayer fails to file a plan of reorganization 
with the IRS in accordance with proposed Sec.  1.368-3(a)(5), proposed 
Sec.  1.368-4(c)(2)(i) recognizes that the Commissioner may correct or 
identify a plan of reorganization. Under proposed Sec.  1.368-
4(c)(2)(ii), the Commissioner may determine that a transaction or 
series of transactions should be included in, or excluded from, a plan 
of reorganization based on (i) all facts and circumstances regarding 
the transaction or series of transactions, and (ii) all relevant 
provisions of the Code and general principles of Federal income tax 
law, including the step transaction doctrine.
    The proposed approach is consistent with long-standing caselaw 
indicating that the existence and proper scope of a plan of 
reorganization can be determined in the absence of formal 
documentation. See, for example, Redfield, 34 B.T.A. at 973 (``It is 
not necessary, however, that such a plan of reorganization be evidenced 
by a formal written document, such as a contract or corporate minutes. 
It is sufficient if the circumstances indicate that the various steps 
taken were pursuant to a definite plan of reorganization.''); Fry v. 
Comm'r, 5 T.C. 1058, 1070 (1945) (similar). The proposed regulations 
would reflect this long-standing position because conditioning the 
applicability of the definitional and operative provisions of 
subchapter C on whether a plan of reorganization formally was prepared 
and filed would, in particular and contrary to law, make the 
reorganization regime entirely elective.
    Nonetheless, the Treasury Department and the IRS are of the view 
that formal documentation requirements for taxpayer-filed plans of 
reorganization are necessary to facilitate the IRS's administration of 
the reorganization provisions of subchapter C. See part III of the 
Background. Moreover, the preference for complete and accurate 
taxpayer-filed plans of reorganization under proposed Sec.  1.368-
4(c)(1) requires adequate substantiation with the IRS, which would be 
provided by objectively verifiable, official corporate documents. 
Accordingly, proposed Sec.  1.368-4(d) would enhance the current 
reporting requirements for plans of reorganization.
c. Agreement by Parties to Plan of Reorganization; Beginning of Plan of 
Reorganization
    Proposed Sec.  1.368-4(d)(2) would provide that, prior to the first 
step of a reorganization, the plan of reorganization or an original 
plan of reorganization that becomes the amended plan of reorganization, 
as applicable, must be finalized and adopted by the party to the 
reorganization. Taxpayers would demonstrate satisfaction of this 
requirement through (i) the acts of duly authorized officers and 
directors of the corporation, and (ii) the official records of the 
party to the reorganization.
    The Treasury Department and the IRS are of the view that the 
proposed approach would provide greater taxpayer certainty regarding 
the means by which parties to a reorganization can adopt a plan of 
reorganization than current Sec.  1.368-3(a), which provides only that 
``[t]he plan of reorganization must be adopted by each of the 
corporations that are parties thereto.'' As previously discussed in 
part III.B of this Explanation of Provisions, the current regulations 
have created significant uncertainty due to the lack of guidance on 
what constitutes an ``adoption'' by the parties. The proposed 
regulations would address this uncertainty in a manner consistent with 
prior Sec.  1.368-3(a) and statutory law. See section 806(g)(3) of the 
Tax Reform Act of 1976 (Public Law 94-455, 90 Stat. 1520, 1606) 
(describing how a corporation is considered to have adopted a plan of 
reorganization for purposes of determining the effective date of 
certain modifications to sections 382 and 383).
    In addition, the proposed substantiation requirements would 
facilitate the IRS's administrative function by marking the beginning 
of the taxpayer's plan of reorganization--a feature that the Tax Court 
also views as important. See Seagram, 104 T.C. at 98 (emphasizing in 
its plan of reorganization analysis that the DuPont/Conoco Agreement 
``provides a discrete start and finish'').
d. Timing Requirement for Completion of Plan of Reorganization
i. General ``Expeditious Completion'' Requirement
    Proposed Sec.  1.368-4(d)(3)(i)(A) and (ii)(A) would require that, 
taking into account all facts and circumstances (including the one or 
more corporate

[[Page 5238]]

business purposes for a reorganization), all parties to the 
reorganization must complete the plan of reorganization as 
expeditiously as practicable, and in the manner described in that plan. 
The proposed approach takes into account taxpayers' need for 
transactional flexibility and reflects the long-standing principle that 
the passage of time is not determinative of whether a transaction is 
part of a plan of reorganization. See, for example, Wilson v. Comm'r, 
T.C. Memo. 1961-135 (``The mere lapse of time is not decisive. The 
important thing is that the steps which are taken evidence a consistent 
performance of the reorganization plan and purpose.'').
ii. Presumption of Satisfaction if Completion Within 24 Months
    However, the Treasury Department and the IRS are concerned that the 
lack of a time limitation for completing a plan of reorganization 
raises administrability concerns for the IRS. Accordingly, the Treasury 
Department and the IRS are (i) issuing proposed Sec.  1.355-5, and (ii) 
introducing new Form 7216, to provide the IRS with information 
regarding divisive transactions that span multiple tax years. See part 
V of the Background.
    Additionally, temporal guidelines would provide greater certainty 
to taxpayers. In this regard, stakeholders have requested the inclusion 
of safe harbors in these proposed regulations to mitigate uncertainty 
arising from conceptual rules and facts-and-circumstances 
determinations. Based on this feedback, proposed Sec.  1.368-
4(d)(3)(i)(B) would provide that the ``expeditious completion'' 
requirement is presumed to be satisfied if all parties to a 
reorganization complete the plan of reorganization within the 24-month 
period beginning on the date of the first step of the plan of 
reorganization. This increased certainty would help achieve the 
transaction facilitation objective of these proposed regulations, and 
providing a 24-month safe harbor would help achieve the compliance 
objective of these proposed regulations.
e. Requirements for Transactions To Be Treated as Properly Included in 
Plan of Reorganization
i. Overview
    Stakeholders have recommended various standards and approaches for 
determining whether a transaction is properly included in a plan of 
reorganization. As noted by stakeholders, neither current guidance nor 
the caselaw regarding the ``plan of reorganization'' requirement 
adequately addresses this issue. The proposed regulations would 
synthesize the overarching principles of this caselaw into rules that 
could be applied by taxpayers and the IRS with significantly greater 
certainty than under current Treasury guidance and the caselaw.
ii. Definite Intent Requirement
    As a threshold requirement, proposed Sec.  1.368-4(e)(1)(i) would 
require that, prior to the first step of a plan of reorganization or an 
original plan of reorganization that becomes the amended plan of 
reorganization, one or more parties to the reorganization must evidence 
a definite intent to carry out the transaction. This definite intent 
must be evidenced through a written commitment in one or more official 
records of the party that substantiate the plan of reorganization. 
Under this proposal, the existence of contingencies or conditions would 
not be conclusive in determining whether a party to the reorganization 
satisfies this requirement.
    The ``definite intent'' standard is intended to provide sufficient 
transactional flexibility to encourage bona fide business transactions 
in a manner consistent with long-standing caselaw. The origins of the 
``definite intent'' standard can be traced back to judicial opinions of 
the Board of Tax Appeals (BTA), the predecessor to the Tax Court. For 
example, in Fry v. Commissioner, the BTA relied on this standard for 
determining the existence of a plan of reorganization from ``what 
appear[ed] on the minutes of the meeting of the stockholders and the 
meeting of the board of directors of the old bank,'' which had 
articulated the business objectives and transaction steps for the 
reorganization. 5 T.C. at 1070; see also Redfield, 34 B.T.A. at 973 
(noting that, although a formal written plan of reorganization is not 
necessary, the circumstances evidencing that a reorganization occurred 
need to indicate that the various steps taken in pursuance thereof were 
taken ``pursuant to a definite plan of reorganization'') (emphasis 
added); Seagram, 104 T.C. at 97 (observing that the DuPont/Conoco 
Agreement ``definitively states the terms for `the acquisition of 
[Conoco] by [DuPont Tenderor and]' sets out . . . the series of 
transactions which in their totality were intended to accomplish a 
section 368 reorganization'').
    In contrast, courts have determined that transactions subject to a 
lesser degree of intent or predominated by uncertainty are not properly 
included in a plan of reorganization. For example, in National Bank of 
Commerce in Memphis v. United States, 87 F. Supp. 302 (W.D. Tenn. 
1949), the court concluded that a transaction contemplated prior to the 
plan of reorganization was not properly included in that plan because 
the transaction was uncertain and indefinite as of the time of the 
first step of the plan of reorganization. 87 F. Supp. at 304. The court 
emphasized that ``[a]n element in a plan of reorganization that cannot 
be legally enforced and, in addition is fraught with much uncertainty, 
is indefinite and not necessary to the reorganization, cannot be 
considered as one of the steps resulting in the completed 
transaction.'' Id. Accordingly, if the parties did not anticipate or 
otherwise contemplate a transaction prior to the adoption of the plan 
of reorganization, that transaction cannot be included in that plan. 
See Atwood Grain & Supply Co. v. Comm'r, 60 T.C. 412, 423 (1973) 
(observing that ``[t]here [wa]s no evidence that issuance of the 
preferred stock was contemplated either in the merger negotiations or 
in the merger agreement,'' and reasoning that, ``[i]n order to include 
events occurring after a merger in the plan of merger there must be 
some anticipation of the event in the merger'').
    Stakeholders have noted that a ``plan of reorganization'' concept 
that includes every possibility considered by any taxpayer in 
connection with a reorganization would be overbroad and meaningless. 
Indeed, a commenter relied upon by the Tax Court for its analysis in 
Seagram noted that ``[t]he contemplated possibility standard is too 
broad. . . . A more appropriate standard would be to link the later 
transaction to the earlier one only if there is a firm commitment to 
consummate it.'' Faber, The Use and Misuse of the Plan of 
Reorganization Concept, 38 Tax L. Rev. at 547. The Treasury Department 
and the IRS agree that such a standard would not be appropriate for the 
proposed regulations. Accordingly, proposed Sec.  1.368-4(e)(1)(iii)(A) 
would provide that mere contemplation that a transaction may be carried 
out would not be sufficient to satisfy the ``definite intent'' 
requirement, regardless of whether that contemplated transaction is 
included in an official record of the party.
    However, the Treasury Department and the IRS recognize that the 
``contemplated possibility'' standard is relevant for certain plan of 
reorganization determinations. Accordingly, proposed Sec.  1.368-
4(e)(1)(iii)(B) would provide that a party's mere contemplation of a 
transaction may be relevant for purposes of the correction or 
identification of a plan of reorganization by the

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Commissioner. As previously discussed in part III.C.2.b. of this 
Explanation of Provisions, the Commissioner's determination under 
proposed Sec.  1.368-4(c)(2)(ii) would be based on all facts and 
circumstances pertaining to the transaction and the application of all 
relevant Code provisions and Federal income tax principles, including 
the step transaction doctrine.
    Permitting the IRS to determine the outer reaches of the scope of 
transactions potentially includable in a plan of reorganization through 
an analysis of all facts and circumstances and Federal income tax 
principles would be consistent with judicial authorities that have 
applied a ``contemplated possibility'' test. For example, in Anheuser-
Busch, Inc. v. Commissioner, 40 B.T.A. 1100 (1939), the BTA relied on 
substance-over-form principles to determine the scope of transactions 
included in a plan of reorganization, based on its determination that a 
first-step transfer to a parent corporation was ``transitory and 
without real substance.'' 40 B.T.A. at 1106. As part of its analysis, 
the court observed that the parent had ``contemplated,'' but was not 
obligated to carry out, the immediate transfer of the property received 
to its subsidiary, and the court expanded the scope of the plan of 
reorganization to include that second-step transfer. Id. at 1106-07 
(relying on the substance-over-form analysis of Helvering v. Bashford, 
302 U.S. 454, 458 (1938)). Other judicial opinions similarly have used 
the existence of a contemplated possibility in this manner. See, for 
example, Avco Mfg. Corp. v. Comm'r, 25 T.C. 975, 984-85 (1956) (noting 
that a ``subsequent transfer of the property . . . was a contemplated 
possibility under the plan that actually eventuated'' and was properly 
included within the scope of the plan of reorganization under the 
mutual interdependence test); Transport Products Corp. v. Comm'r, 25 
T.C. 853, 857-58 (1956).
    Once a definite intent is established, the existence of 
contingencies and other conditions that could affect prosecution of the 
plan of reorganization are not treated as diminishing that level of 
intent. See, for example, Seagram, 104 T.C. at 96 (``DuPont had an 
indisputable legal obligation to complete the Merger with Conoco, 
notwithstanding the possibility of intervening legal impediments, or 
contingencies, which in fact, never materialized''). Accordingly, 
proposed Sec.  1.368-4(e) would provide that, for purposes of 
determining whether a party to a reorganization satisfies the 
``definite intent'' requirement, the existence of contingencies or 
conditions is not conclusive.
    Section 355 transactions would be subject to a special definite 
intent requirement under proposed Sec. Sec.  1.355-4(d)(1)(ii) and 
1.368-4(e)(1)(ii). Specifically, if a control distribution occurs in a 
later taxable year than the first distribution, the distributing 
corporation would not be treated as establishing a definite intent 
unless all distributions up to and including the control distribution 
are effectuated pursuant to a binding commitment. This proposed special 
``definite intent'' requirement would reflect the Supreme Court's 
decision in Gordon. See also the discussion in part I.D.2 of the 
Background.
iii. Proximate Relationship Requirement
(a) Overview
    The proposed regulations would set forth standards for determining 
whether a transaction shares a sufficient relationship with other 
transactions to which a definitional or operative provision applies. To 
reflect the distinct purposes for, and requirements of, the 
definitional provisions and the operative provisions in subchapter C, 
the proposed regulations would set forth two different sets of 
proximate relationship requirements.
(b) Necessary or Integral Test for Qualification Under Definitional 
Provisions
    Under proposed Sec.  1.368-4(e)(2)(i)(A), a transaction would be 
treated as part of the plan of reorganization for a reorganization to 
which a definitional provision can apply only if, on its own or as part 
of a series of transactions, the transaction either (i) is necessary to 
satisfy one or more requirements of the definitional provision, or (ii) 
is an integral part of a series of transactions carried out to satisfy 
the requirements of the definitional provision. In practice, the 
``integral part'' test generally would be relevant for transactions 
that are not ``necessary to satisfy'' one or more requirements of a 
definitional provision. The proposed regulations would require 
satisfaction of either condition to be evidenced by a written 
commitment in one or more official records of the party to the 
reorganization. See proposed Sec.  1.368-4(e)(2)(i)(A).
    The ``necessary to satisfy'' condition is intended to convey, with 
more precision, a requirement set forth in current Sec.  1.368-2(g). 
Section 1.368-2(g) states, in part, that ``[t]he term plan of 
reorganization has reference to a consummated transaction specifically 
defined as a reorganization under section 368(a).'' In addition, 
current Sec.  1.368-2(g) provides that ``[t]he term is not to be 
construed as broadening the definition of `reorganization' as set forth 
in section 368(a).'' The Treasury Department and the IRS view the 
``necessary to satisfy'' condition as already clear (given that the 
definitional provisions in section 368(a)(1) describe the steps 
necessary for qualification) but have rearticulated this standard to 
eliminate the circularity and vagueness that courts and stakeholders 
have identified in current Sec.  1.368-2(g). See Int'l Telephone, 77 
T.C. at 75 (noting such vagueness); Seagram, 104 T.C. at 96 
(highlighting the Tax Court's observation in Int'l Telephone).
    The ``integral part'' condition also is embedded in current Sec.  
1.368-2(g), which provides that the term ``plan of reorganization'' is 
to be taken as limiting the nonrecognition of gain or loss to ``such 
exchanges or distributions as are directly a part of the transaction 
specifically described as a reorganization in section 368(a)'' 
(emphasis added). The Treasury Department and the IRS view this 
``directly a part'' standard as less stringent than the ``necessary to 
satisfy'' standard but nonetheless view it as mandating that a 
transaction must be essential to qualifying a series of transactions as 
a reorganization. Accordingly, the proposed regulations would replace 
the phrase ``directly a part of the transaction'' with an ``integral 
part'' standard.
    The proposed ``integral part'' standard is intended to reflect the 
structure of section 368(a)(1) and the long-standing position of the 
IRS and the courts. For example, a distributing corporation that 
retains controlled corporation stock may qualify under section 355--and 
therefore ultimately may satisfy a condition in section 368(a)(1)(D)--
through multiple types of dispositions of controlled corporation stock. 
In each instance, such disposition may be viewed as integral to section 
368(a)(1)(D) qualification. (See also the requirements for qualifying 
retentions previously discussed in part I.C of this Explanation of 
Provisions.)
    The foregoing principle is reflected in Rev. Rul. 57-518, 1957-2 
C.B. 253, which addressed whether a transaction satisfied a prior 
version of section 368(a)(1)(C) that did not yet impose a liquidation 
requirement. In Rev. Rul. 57-518, a target corporation transferred 70 
percent of its assets to an acquiring corporation for acquiring 
corporation voting stock. The target corporation then disposed of all 
its remaining assets in recognition transactions (that is, not under 
the operative nonrecognition

[[Page 5240]]

provisions of subchapter C) and liquidated. Although the liquidation 
was not described in, or required by, that prior version of section 
368(a)(1)(C), the IRS concluded that the liquidation was part of the 
plan of reorganization. Like the disposition by a distributing 
corporation of retained controlled corporation stock in a transaction 
to which section 1001 applies, the target corporation liquidation was 
not necessary to achieve qualification under section 368(a)(1), but it 
was an integral part of a series of transactions carried out to satisfy 
the requirements of that definitional provision.
(c) But for, or Integral to, Test for Application of Operative 
Provision
    Under proposed Sec.  1.368-4(e)(2)(i)(B), a transaction would be 
treated as part of the plan of reorganization to which an operative 
provision can apply only if, on its own or as part of a series of 
transactions, the transaction either (i) would not have occurred but 
for the reorganization that is covered by the plan of reorganization, 
or (ii) is an integral part of a series of transactions carried out to 
satisfy the requirements of the definitional provision intended to 
apply to the reorganization. The proposed regulations would require 
satisfaction of either condition to be evidenced by a written 
commitment in one or more official records of the party to the 
reorganization. Both of these conditions are intended to replace the 
``directly a part of'' standard set forth in current Sec.  1.368-2(g) 
with standards that are clearer and more reflective of the purpose and 
requirements of the operative provisions in subchapter C.
    The proposed ``but for'' condition is embedded within the 
``directly a part of'' requirement in current Sec.  1.368-2(g). Among 
other objectives, this proposed condition is intended to help clarify 
the determination of whether an operative provision applies to a 
distribution that occurs within close temporal proximity to one or more 
transactions that are properly included in a plan of reorganization. 
For example, in determining whether section 361(b) should apply to a 
distribution by a distributing corporation to its shareholders in close 
temporal proximity to a divisive reorganization, the proposed ``but 
for'' test would clarify that section 361(b) treatment would be 
applicable only if that distribution would not have occurred ``but 
for'' the divisive reorganization. See the examples in proposed Sec.  
1.361-3(f)(2) through (5).
    An ``integral part'' standard also would increase taxpayer 
certainty as compared to the current ``directly a part of'' standard, 
particularly because courts historically have applied an ``integral 
part'' standard. For example, in Sheldon v. Commissioner, 6 T.C. 510 
(1946), the Tax Court found that a transaction was integral to a merger 
even though the transaction was not necessary for qualification for a 
definitional provision under section 368(a)(1). In Sheldon, the Tax 
Court considered whether a pre-merger distribution should be included 
in the plan of reorganization for the merger. 6 T.C. at 517-18. The 
court emphasized that the pre-merger distribution was made to equalize 
values of the target corporation and the acquiring corporation so that 
the merger could be one of equals, thereby satisfying a condition for 
executing the merger. Id. In its analysis, the court provided that 
``[t]he purpose of this distribution, its place in the sequence of 
events, and the surrounding circumstances, lead to but one conclusion. 
They all demonstrate that it was an integral part of the reorganization 
transaction as a whole and must be treated in connection with it.'' Id. 
at 517. See also Int'l Telephone, 77 T.C. at 76 (noting the absence of 
``a binding agreement or other factors indicating that conversion [of 
debentures] was an integral part of the plans of reorganization'').
    Additionally, the Treasury Department and the IRS are of the view 
that replacing the ``directly a part of'' standard in current Sec.  
1.368-2(g) with the standards in proposed Sec.  1.368-4(e)(2)(i)(B) 
would improve taxpayer certainty in determining the applicability of an 
operative provision of subchapter C. Proposed Sec.  1.368-4(e) would 
provide additional certainty by requiring the ``but for'' standard to 
be applied in tandem with the ``definite intent'' requirement set forth 
in proposed Sec.  1.368-4(e)(1). In other words, a transaction would 
not be properly included in a plan of reorganization if the party to 
the reorganization failed to evidence a definite intent to carry out 
that transaction, regardless of whether the transaction would not have 
occurred ``but for'' the reorganization.
    This implementation of the ``but for'' standard would be consistent 
with judicial authorities, including those cited by stakeholders. For 
example, in International Telephone, the Tax Court considered exchanges 
involving debentures that could not have occurred but for the execution 
of a reorganization that qualified under section 368(a)(1)(C). 77 T.C. 
at 72-78. Although the court observed the existence of that ``but for'' 
relationship, the court reasoned that ``[t]he fact that [the acquiring 
corporation] assumed the conversion obligation as part of the plans of 
reorganization does not mean . . . that the subsequent conversions and 
retirement of the debentures were also part of the reorganizations.'' 
Id. at 76. Based on the lack of indicia indicating satisfaction of the 
proposed ``direct intent'' requirement, the Tax Court concluded that 
such exchanges were not properly included in the plan of 
reorganization. See id. at 76-77 (noting the lack of any binding 
agreement, any other type of obligation, or other facts that would 
indicate satisfaction of the ``direct intent'' requirement). See also 
Becher v. Comm'r, 22 T.C. 932 (1954) (treating a distribution as not 
part of the plan of reorganization under the predecessor to section 
368(a)(1)(D), and therefore not ``boot,'' based on an examination of 
the facts and circumstances of the distribution and the transactions 
comprising the reorganization).
(d) Independent Legal Significance; Temporal Proximity
    Proposed Sec.  1.368-4(e)(2)(ii) would confirm that the independent 
significance of a transaction (for example, the fact that the 
transaction has a separate business motive apart from the 
reorganization) does not preclude satisfaction of the proximate 
relationship requirements in proposed Sec.  1.368-4(e)(2)(i)(A) and 
(B). The Treasury Department and the IRS view this approach as 
consistent with established caselaw (see Seagram, 104 T.C. at 91-93) 
and reflective of the realities of bona fide business transactions. It 
has long been the understanding of the Treasury Department and the IRS 
that a transaction could be included in the plan of reorganization even 
though it may have separate business motives, or separate and permanent 
legal, economic, and business consequences, apart from the 
reorganization.
    Additionally, proposed Sec.  1.368-4(e)(2)(iii) would provide that 
a transaction occurring in close temporal proximity to one or more 
other transactions is not properly included in a plan of reorganization 
unless Federal income tax principles (including the step transaction 
doctrine) would apply to determine that the transaction was, in 
substance, part of the plan of reorganization.
iv. Business Purpose Consistency Requirement
    Lastly, in order for a transaction to be treated as properly 
included in a plan of reorganization, proposed Sec.  1.368-4(e)(3) 
would require the transaction (on its

[[Page 5241]]

own, or as part of a series of transactions) to be consistent with, and 
directly related to, one or more corporate business purposes for the 
reorganization (for example, the transaction directly furthers one or 
more corporate business purposes for the reorganization).
    The Treasury Department and the IRS view the proposed corporate 
business purpose consistency requirement as reflective of established 
caselaw. See Seagram, 104 T.C. at 83, 97 (noting that the tender offer 
and the merger shared the same corporate business purpose of enabling 
DuPont to acquire all the stock of Conoco). In addition, the Treasury 
Department and the IRS view this proposed rule as conceptually grounded 
in current Sec.  1.368-2(g), which provides that ``the readjustments 
involved in the exchanges or distributions effected in the consummation 
[of the reorganization] must be undertaken for reasons germane to the 
continuance of the business of a corporation a party to the 
reorganization.''
f. Amended Plan of Reorganization
    The Treasury Department and the IRS recognize that, in certain 
circumstances, taxpayers may need to amend their plans of 
reorganization. Accordingly, proposed Sec.  1.368-4(f)(1) would provide 
that, if a taxpayer amends a plan of reorganization after the first 
step of the original plan (amended plan of reorganization), those 
amendments do not cause the taxpayer to fail to satisfy the ``plan of 
reorganization'' requirements set forth in proposed Sec.  1.368-4(d) 
only if the following requirements are satisfied. First, the amendments 
to the plan must be in direct response to an identifiable, unexpected, 
and material change in market or business conditions that occurs after 
the date on which the original plan of reorganization is adopted by the 
party to the reorganization. Second, the amendments must be necessary 
to effectuate the reorganization. Third, the amended plan of 
reorganization must satisfy all requirements set forth in proposed 
Sec.  1.368-4(d) to qualify as a plan of reorganization.
    If the taxpayer satisfies the requirements in proposed Sec.  1.368-
4(f)(1), proposed Sec.  1.368-4(f)(2)(i) would provide that the 
definitional and operative provisions described in proposed Sec.  
1.368-1(c)(2)(i) and (ii) would apply to the transactions identified 
in, and carried out pursuant to, the amended plan of reorganization. In 
other words, the proposed regulations would confirm that the Federal 
income tax consequences of all transactions properly included in the 
amended plan of reorganization would be determined based on that plan 
of reorganization (and not on the original plan of reorganization). 
However, proposed Sec.  1.368-4(f)(2)(ii) would provide that, if the 
amended plan of reorganization fails to satisfy the requirements in 
proposed Sec.  1.368-4(f)(1), the Commissioner may correct or identify 
the amended plan of reorganization.
3. Proposed Rules Regarding Party to a Reorganization
    In addition to providing rules regarding the determination, 
adoption, and prosecution of a plan of reorganization, the proposed 
regulations would revise current Sec.  1.368-2(f) to further clarify 
(i) which persons are parties to a reorganization, and (ii) the 
consequences of determining that a person is (or is not) a party to a 
reorganization.
    Proposed Sec.  1.368-2(f)(1) generally would provide that the 
definitional and operative provisions described in Sec.  1.368-
1(c)(2)(i) and (ii), respectively, apply solely to a transaction that 
is carried out by, between, or among one or more parties to a 
reorganization. For purposes of determining the scope of transactions 
to which those provisions apply, the term ``party to a reorganization'' 
would be limited under proposed Sec.  1.368-2(f)(2) through (4) solely 
to a corporation that (i) engages in a transaction or series of 
transactions that satisfies a definitional provision set forth in 
section 368(a)(1), and (ii) is determined to be a party to a 
reorganization, as further described in the following paragraph.
    In general, proposed Sec.  1.368-2(f)(4)(i) would provide that a 
corporation's status as a party to a reorganization is established 
solely by the inclusion and identification of the corporation as a 
party to the reorganization in a plan of reorganization filed with the 
IRS pursuant to proposed Sec.  1.368-3(a)(5). However, proposed Sec.  
1.368-2(f)(4)(ii) would provide that the corporation's status as a 
party to a reorganization may be determined by the Commissioner based 
on (i) all facts and circumstances regarding the transaction or series 
of transactions, and (ii) all relevant provisions of the Code and 
general principles of tax law, including the step transaction doctrine.
    Proposed Sec.  1.368-2(f)(3)(ii) would retain the rules in current 
Sec.  1.368-2(f) regarding the impact of certain transfers of assets or 
stock in a reorganization on a person's status as a party to the 
reorganization.

IV. Application of Substance-Over-Form, Agency, and Other Relevant 
Theories to Intermediated Exchanges and Direct Issuance Transactions

A. Notice 2024-38

    In section 2.02(5) of Notice 2024-38, the Treasury Department and 
the IRS announced that they are continuing to study the application of 
the Code, as well as general principles of Federal income tax law 
(including substance-over-form, agency, or other relevant theories), to 
monetization transactions involving section 361 consideration. In 
particular, this study continues to focus on intermediated exchanges, 
which occur through (i) the acquisition by an intermediary (such as an 
investment bank) of historical distributing corporation debt from 
holders of that debt, and (ii) the subsequent satisfaction of that debt 
by the distributing corporation using section 361 consideration.
    As capital market transactions have evolved, this study also has 
focused increasingly on direct issuance transactions, which typically 
occur through: (i) the issuance of new debt by a distributing 
corporation to an intermediary for cash in anticipation of a divisive 
reorganization; (ii) the use of that cash by the distributing 
corporation to satisfy historical distributing corporation debt, during 
a potentially indefinite period; and (iii) the satisfaction of that new 
debt by the distributing corporation through the transfer of section 
361 consideration to the intermediary.
    This study reflects the long-standing position of the Treasury 
Department and the IRS that general principles of Federal income tax 
law (including substance-over-form, agency, or other relevant theories) 
apply to determine the Federal income tax consequences of all 
transactions, including such monetization transactions. See United 
States v. Fruehauf Corp., 577 F.2d 1038, 1068 (6th Cir. 1978) (``The 
incidence of federal taxation has always depended upon the substance of 
transactions . . .''). Indeed, this position is consistent with nearly 
a century of Supreme Court precedent beginning with the Court's 
decision in Gregory v. Helvering, which established that the 
application of the Code to a transaction (or series of transactions) 
turns on the substance of the transaction. See Gregory, 293 U.S. at 
467-70 (concluding that the ``reorganization attempted was without 
substance and must be disregarded [and] [t]o hold otherwise would be to 
exalt artifice above reality and to deprive the statutory provision in 
question of all serious purpose'');

[[Page 5242]]

United States v. Iles, 906 F.2d 1122, 1127 (6th Cir. 1990) (``The 
Supreme Court has recognized, at least as far back as Gregory v. 
Helvering . . . that substance over form governs federal taxation.'') 
(citations omitted).
    The application of substance-over-form and similar doctrines can 
affect qualification for nonrecognition treatment under section 361. 
Notice 2024-38 conveyed the long-standing view of the Treasury 
Department and the IRS that the application of agency principles to an 
intermediated exchange involving so-called ``old and cold'' 
distributing corporation debt could cause that transaction to be 
recharacterized for Federal income tax purposes such that the 
distributing corporation would not be treated as transferring section 
361 consideration to a creditor in satisfaction of distributing 
corporation debt. In other words, if the intermediary were found to be 
acting on behalf of the distributing corporation under agency 
principles, transfers of section 361 consideration to the intermediary 
would not satisfy the requirements for nonrecognition under section 
361. With respect to a direct issuance transaction in which the 
distributing corporation issues and redeems the new debt in close 
temporal proximity, the Treasury Department and the IRS are of the view 
that the transaction could be recast under general principles of 
Federal income tax law such that the nonrecognition requirements under 
section 361 are not satisfied.

B. Stakeholder Input

1. Intermediated Exchanges
    Stakeholders have contended that intermediated exchanges should not 
be subject to recharacterization, provided that the distributing 
corporation establishes the intermediary's status as a creditor acting 
for its own account under agency principles. Stakeholders have stated 
that this approach would be consistent with Rev. Rul. 2017-9, 2017-21 
I.R.B. 1244, because intermediated exchanges (i) do not conflict with 
the underlying policy of section 361(c)(3), (ii) do not avoid the 
result intended by section 361(c)(3) (that is, the reallocation of 
historical distributing corporation liabilities to the controlled 
corporation), and (iii) do not produce results that are inconsistent 
with the underlying intent of section 361(c)(3). In other words, 
stakeholders have suggested that, in determining whether an 
intermediated exchange should be recharacterized, the relevant question 
is whether the distributing corporation debt acquired by the 
intermediary was issued with a purpose of avoiding any requirement or 
limitation under section 361.
    In this regard, one stakeholder has requested guidance providing 
that steps of an intermediated exchange will not be recast under 
Federal income tax principles if (i) the intermediary acts on its own 
account in acquiring distributing corporation debt from third parties 
(that is, the intermediary becomes the owner of such debt for Federal 
income tax purposes and the acquisition is not funded or guaranteed by 
the distributing corporation), (ii) the intermediary assumes the risk 
that the distributing corporation may default on its debt while such 
debt is held by the intermediary, and (iii) the distributing 
corporation debt acquired by the intermediary was not issued with a 
purpose of avoiding the requirements or limitations of section 361.
    Another stakeholder has recommended that the Treasury Department 
and the IRS refrain from issuing substantive guidance given the fact-
intensive nature of determining whether an intermediated exchange 
should be recast. The stakeholder has recommended that the IRS continue 
to issue private letter rulings on a case-by-case basis to taxpayers 
that are able to establish an intermediary's status as a creditor 
acting for its own account by reference to the factors specified in a 
series of technical advice memoranda previously issued by the IRS. See 
T.A.M. 8815003 (Dec. 11, 1987); T.A.M. 8738003 (May 22, 1987); T.A.M. 
8735007 (May 18, 1987); T.A.M. 8735006 (May 18, 1987).
2. Direct Issuances
    Stakeholders have provided various recommendations to the Treasury 
Department and the IRS regarding the treatment of direct issuance 
transactions. Stakeholders uniformly have contended that the proposed 
regulations should recast or recharacterize a direct issuance 
transaction only if the transaction presents an abuse within the 
meaning of section 361(b)(3). In addition, stakeholders consistently 
have contended that the policy of section 361 confirms that direct 
issuance transactions satisfy the requirements for nonrecognition 
treatment under section 361. Although one stakeholder has acknowledged 
that, in some circumstances, the Treasury Department and the IRS may 
have a legitimate concern that a direct issuance transaction should be 
treated as a sale of controlled corporation stock to the intermediary, 
the stakeholder has noted that delineating the exact bounds of an 
abusive transaction as it relates to section 361(b)(3) and (c)(3) would 
be difficult. Accordingly, stakeholders generally have recommended that 
the Treasury Department and the IRS continue to address the section 361 
qualification of direct issuance transactions through the IRS's private 
letter ruling program rather than through Treasury regulations.
    Alternatively, stakeholders have recommended that the proposed 
regulations set forth specific safe harbors for direct issuance 
transactions that, after adequately taking into account commercial 
considerations (which one stakeholder has referred to as ``commercially 
grounded carveouts''), clearly would not present evidence of abuse. One 
stakeholder has recommended that a direct issuance transaction be 
respected as a borrowing if: (i) the newly issued debt qualifies as 
debt for Federal income tax purposes; (ii) the new debt issuance and 
the exchange agreement with the intermediary (regarding satisfaction of 
the newly issued debt with controlled corporation stock or securities) 
are pursuant to two legally separate agreements; (iii) the distributing 
corporation is not under economic compulsion to satisfy the newly 
issued debt with controlled corporation stock or securities at the time 
of issuance because the distributing corporation has sufficient other 
resources to repay the debt; (iv) the newly issued debt is satisfied 
with controlled corporation stock or securities having a fair market 
value equal to the principal amount and unpaid interest on the debt; 
and (v) the distributing corporation retains tax ownership of the 
controlled corporation stock or securities until the time of repayment.
    Another stakeholder has suggested additional factors to be 
considered, including (i) the number of days the newly issued debt is 
outstanding before the exchange of that debt for controlled corporation 
stock or securities, and (ii) whether the intermediary participating in 
the direct issuance transaction is a member of a syndicate of lenders 
that has historically provided debt financing to the distributing 
corporation. Additionally, a stakeholder has recommended (i) limiting 
permissible direct issuance transactions to situations in which the 
proceeds of the new debt are used to retire historical debt, and (ii) 
including a general anti-avoidance rule based on the distributing 
corporation's business purpose for entering into the direct issuance 
transaction.

[[Page 5243]]

C. Proposed Regulations

1. Overview
    The Treasury Department and the IRS continue to be of the view 
that, under certain circumstances, intermediated exchanges and direct 
issuance transactions can be recast or otherwise recharacterized under 
Federal income tax principles. Certain stakeholders have described the 
aforementioned concerns of the Treasury Department and the IRS with 
respect to such transactions as new or as deriving primarily from 
direct issuance transactions or refinancing transactions.
    However, these concerns are neither new nor unique. As confirmed 
almost a century ago by the Supreme Court in Gregory v. Helvering, the 
application of substance over form and other general Federal income tax 
principles is inseparable from the application of the Code itself. See 
also Newman v. Comm'r, 894 F.2d 560, 562 (2d Cir. 1990) (emphasizing 
that, ``in reviewing a transaction for tax consequences, the substance 
of the agreement takes precedence over its form''). Accordingly, one 
objective of these proposed regulations is to clarify that general 
Federal income tax principles apply with regard to the application of 
section 361 just as such principles would apply with regard to the 
application of other Code provisions.
    With regard to the application of section 361 to intermediated 
exchanges, the Treasury Department and the IRS note that concerns 
regarding agency and substance over form date back decades to a series 
of technical advice memoranda that considered the application of a 
prior version of section 108 of the Code to conceptually similar 
intermediated exchanges of stock and securities. See T.A.M. 8815003 
(Dec. 11, 1987); T.A.M. 8738003 (May 22, 1987); T.A.M. 8735007 (May 18, 
1987); T.A.M. 8735006 (May 18, 1987). The so-called ``5/14 standard'' 
in corporate private letter rulings developed out of concerns similar 
to those discussed in those memoranda. (Under this standard, rulings 
generally would be issued by the IRS if: (i) the intermediary purchased 
distributing corporation debt; (ii) after at least five days, the 
intermediary and the distributing corporation entered into an agreement 
to exchange the purchased distributing corporation debt for section 361 
consideration; and (iii) the exchange occurred at least 14 days after 
the intermediary purchased the distributing corporation debt.)
    With regard to the application of section 361 to direct issuance 
transactions, the Treasury Department and the IRS have expressed 
similar concerns for more than a decade. In particular, the Treasury 
Department and the IRS ceased considering certain private letter ruling 
requests under section 361 in part due to this type of section 361 
monetization transaction. See section 5.01(10) of Rev. Proc. 2013-3, 
2013-1 I.R.B. 113. As explained by Treasury Department and IRS 
officials at that time, these transactions raised issues concerning the 
application of general principles of Federal income tax, including the 
substance-over-form doctrine. Stakeholders also raised similar issues 
at that time.
    In addition, certain stakeholders have mischaracterized the 
concerns of the Treasury Department and the IRS as focused principally 
on (i) whether the new debt should be respected as a debt instrument 
for Federal income tax purposes, or (ii) temporal proximity. With 
regard to the former point, certain stakeholders have provided feedback 
on Notice 2024-38 emphasizing debt-equity factors or have noted that, 
outside of Federal income tax (for example, under securities law), new 
debt issued by a distributing corporation in a direct issuance 
transaction would be treated as debt.
    However, as previously discussed in this part IV.C.1, the Treasury 
Department and the IRS are concerned with the application of the Code 
and Federal income tax principles--not commercial law or other non-
Federal income tax law--to intermediated exchanges and direct issuance 
transactions. In particular, as expressed in Notice 2024-38, the 
concern is not simply the status of the newly issued distributing 
corporation debt as debt for Federal income tax purposes, but also that 
the form of those debt-elimination transactions should be respected and 
not recharacterized under Federal income tax principles.
    With regard to the latter point, the Treasury Department and the 
IRS replaced the 5/14 standard for private letter rulings in Rev. Proc. 
2018-53 with a standard based on a facts-and-circumstances analysis. 
This change was made due to concerns that the 5/14 standard provided a 
temporal requirement that was indifferent to the particular facts and 
circumstances of the transaction, including the intermediary's 
relationship with the distributing corporation. As a consequence, the 
Treasury Department and the IRS observed that the 5/14 standard created 
confusion for taxpayers as to whether temporal proximity is the sole 
consideration with regard to the application of agency or substance-
over-form principles to intermediated exchanges and direct issuance 
transactions.
    The Treasury Department and the IRS also continue to be of the view 
that Rev. Rul. 2017-9 and other revenue rulings mentioned by 
stakeholders in their submitted feedback do not (and cannot) set forth 
broadly applicable principles that would dictate the positions set 
forth in these proposed regulations. One reason is that there are long-
established limitations on the precedential value of revenue rulings. 
Specifically, ``[r]evenue rulings published in the [Internal Revenue] 
Bulletin do not have the force and effect of Treasury Department 
regulations (including Treasury Decisions), but are published to 
provide precedents to be used in the disposition of other cases, and 
may be cited and relied upon for that purpose.'' Section 
601.601(d)(2)(v)(d) of the Statement of Procedural Rules (codifying 
section 7.01(4) of Rev. Proc. 89-14, 1989-8 I.R.B. 20). In addition, 
``[e]ach revenue ruling represents the conclusion of the Service as to 
the application of the law to the entire statement of facts involved,'' 
as opposed to an application outside of that entire statement of 
relevant facts. Section 601.601(d)(2)(v)(d) (codifying section 7.01(6) 
of Rev. Proc. 89-14). Based on these limitations, ``taxpayers, Service 
personnel, and others concerned are cautioned against reaching the same 
conclusion in other cases unless the facts and circumstances are 
substantially the same.'' Section 601.601(d)(2)(v)(e).
    Another reason is that, in almost all instances, the facts and 
circumstances set forth in the revenue rulings mentioned by 
stakeholders are not substantially the same as the transaction facts 
considered by the Treasury Department and the IRS in developing these 
proposed regulations. See Rev. Rul. 2017-9 (providing that ``[t]his 
revenue ruling provides guidance regarding the federal tax treatment of 
certain transactions referred to as `north-south' transactions,'' 
rather than intermediated exchanges or direct issuance transactions); 
Rev. Rul. 59-197, 1959-1 C.B. 77 (considering the potential effect of a 
``cash sale to the key employee'' of the distributing corporation on 
section 355 qualification, rather than an intermediated exchange or a 
direct issuance transaction). Accordingly, those revenue rulings 
address entirely different provisions of the Code. See Rev. Rul. 2017-9 
(addressing the application of, and qualification under, sections 301, 
351, 355, and 361(b)(1) and (2) (not section 361(b)(3) and (c)(3)); 
Rev. Rul. 59-197 (addressing the application of the device

[[Page 5244]]

and continuity of interest requirements under section 355, not section 
361(b)(3) and (c)(3)).
    However, the Treasury Department and the IRS are of the view that 
the facts and analysis set forth in Rev. Rul. 79-258 are relevant for 
purposes of developing proposed regulations under section 357(b). 
Accordingly, based on a de novo consideration of the analysis set forth 
in that revenue ruling, proposed Sec.  1.357-3(d)(4)(ii)(B) would 
incorporate that analysis into proposed rules regarding the assumption 
by a controlled corporation of distributing corporation debt issued in 
close proximity to a divisive reorganization. See the discussion in 
part VIII.C.3.b of this Explanation of Provisions. For the reasons 
discussed in this part IV.C.1, the Treasury Department and the IRS do 
not view it as appropriate for these proposed regulations to extend the 
analysis of Rev. Rul. 79-258 to proposed rules addressing the 
application of section 361.
2. General Approach of Proposed Regulations
    The Treasury Department and the IRS appreciate the feedback 
received from stakeholders on intermediated exchanges and direct 
issuance transactions. As emphasized in Notice 2024-38, and consistent 
with other aspects of these proposed regulations, the proposed rules 
addressing these topics are intended (i) to be consistent with all 
relevant provisions of the Code (that is, the compliance objective); 
(ii) to provide certainty to taxpayers and the IRS regarding the 
application of all relevant provisions of the Code to purported section 
355 transactions (that is, the increased certainty objective); and 
(iii) to be responsive to the manner in which section 355 transactions 
are engaged in by taxpayers and reflect current market practices and 
preferences (that is, the transaction facilitation objective), to the 
extent that doing so does not conflict with the compliance and 
increased certainty objectives.
    With regard to the increased certainty objective, the Treasury 
Department and the IRS have leveraged the expertise of IRS audit and 
examination personnel to develop proposed rules that, to the extent 
practicable, employ bright-line safe harbors, objectively verifiable 
conditions for qualification, and other similar architecture that can 
be readily reflected on Form 7216. These rules reflect the express 
delegation of authority to the Secretary to prevent avoidance of tax 
through abuse of section 361(b)(3) or (c)(3). The Treasury Department 
and the IRS have endeavored to balance this increased certainty 
objective with the transaction facilitation objective.
3. Specific Aspects of Proposed Regulations
a. General Requirements for Deemed Distribution Treatment
    Proposed Sec.  1.361-5 would implement section 361(b)(3) and (c)(3) 
by setting forth requirements that, if satisfied, would cause a 
transfer of section 361 consideration by the distributing corporation 
to its creditor to be treated as a distribution by the distributing 
corporation to its shareholders pursuant to the plan of reorganization. 
First, the creditor of the distributing corporation must be a 
qualifying creditor, as determined under proposed Sec.  1.361-5(b). 
Second, the distributing corporation debt that is satisfied with 
section 361 consideration must constitute eligible distributing 
corporation debt, as determined under proposed Sec.  1.361-5(c)(2). 
Third, the amount of distributing corporation debt that can be 
eliminated under the safe harbors of section 361(b)(3) and (c)(3) 
cannot exceed a maximum amount, as determined under proposed Sec.  
1.361-5(d). Lastly, the transfer by the distributing corporation of 
section 361 consideration in exchange for eligible distributing 
corporation debt must be carried out as part of a qualifying debt 
elimination transaction, as determined under proposed Sec.  1.361-5(e).
    Notwithstanding the satisfaction of the foregoing requirements, 
proposed Sec.  1.361-5(f)(1)(i) would provide that the amount of 
section 361 consideration treated as transferred by the distributing 
corporation to a creditor of the distributing corporation in a 
qualifying debt elimination transaction is reduced by the amount of 
distributing corporation debt that is transitorily eliminated. See the 
discussion in part VII.C of this Explanation of Provisions regarding 
transitorily eliminated distributing corporation debt.
b. Qualifying Creditors
    Proposed Sec.  1.361-5(b)(1) would require each creditor to which 
the distributing corporation transfers section 361 consideration in a 
divisive reorganization to be a creditor that holds eligible 
distributing corporation debt (as described in proposed Sec.  1.361-
5(c)). Additionally, proposed Sec.  1.361-5(b)(1) and (b)(2)(i) 
generally would prohibit the distributing corporation from satisfying 
eligible distributing corporation debt held by a person related (within 
the meaning of section 267(b) or section 707(b)(1)) (see proposed Sec.  
1.361-1(b)(47)) to the distributing corporation (distributing 
corporation related person), the controlled corporation (controlled 
corporation related person), or a related person with regard to a 
distributing corporation related person or a controlled corporation 
related person (collectively, non-qualifying creditors). Creditors that 
hold eligible distributing corporation debt, and that are not otherwise 
disqualified as non-qualifying creditors under proposed Sec.  1.361-
5(b)(2), are referred to as ``qualifying creditors.''
    Proposed Sec.  1.361-5(b)(2)(ii) would provide an exception to the 
general related-creditor prohibition in proposed Sec.  1.361-5(b)(2)(i) 
for a creditor that is a distributing corporation related person or a 
related person with regard to a distributing corporation related person 
if three requirements are satisfied. First, as part of the plan of 
reorganization, proposed Sec.  1.361-5(b)(2)(ii)(A) would provide that 
the section 361 consideration must be transferred to a creditor that is 
neither a distributing corporation related person nor a related person 
with regard to a distributing corporation related person (unrelated 
ultimate creditor). Specifically, if the section 361 consideration is 
money or other property, proposed Sec.  1.361-5(b)(2)(ii)(A)(1) would 
provide that it must be transferred to an unrelated ultimate creditor 
pursuant to the plan of reorganization no later than the end of the 12-
month period beginning on the date the distributing corporation 
receives the money or other property (as appropriate). If the section 
361 consideration is qualified property (as defined in proposed Sec.  
1.361-1(b)(43)), proposed Sec.  1.361-5(b)(2)(ii)(A)(2) would provide 
that it must be transferred to an unrelated ultimate creditor in an 
expeditious manner pursuant to the plan of reorganization under 
proposed Sec.  1.368-4(d)(3). Second, proposed Sec.  1.361-
5(b)(2)(ii)(B)(1) would provide a general provision that all debt for 
which section 361 consideration is exchanged must be in existence as of 
the earliest applicable date. Proposed Sec.  1.361-5(b)(2)(ii)(B)(2) 
would provide that distributing corporation debt held directly by a 
distributing corporation related person or a related person with regard 
to a distributing corporation related person must qualify as historical 
distributing corporation debt described in proposed Sec.  1.361-
5(c)(2)(i). Third, proposed Sec.  1.361-5(b)(2)(ii)(C) would provide 
that each transaction (including each intermediate and unrelated 
ultimate creditor transfer), creditor (including the unrelated ultimate

[[Page 5245]]

creditor), and debt satisfied with section 361 consideration must be 
identified and described in the plan of reorganization with regard to 
the divisive reorganization.
    For purposes of the requirements in proposed Sec.  1.361-
5(b)(2)(ii)(A), proposed Sec.  1.361-5(b)(2)(ii)(A)(3) would permit one 
or more intermediate transfers of section 361 consideration between or 
among distributing corporation related persons or related persons with 
regard to distributing corporation related persons to satisfy debts 
(including the initial distributing corporation debt) if those 
intermediate transfers culminate in a transfer of section 361 
consideration to an unrelated ultimate creditor. Under proposed Sec.  
1.361-5(b)(2)(iii), a person's status as a distributing corporation 
related person or a controlled related person, or as a related person 
with regard to any distributing corporation related person or as a 
related person with respect to any controlled corporation related 
person, would be determined at the time of that person's receipt of the 
section 361 consideration in exchange for the satisfaction and 
retirement of debt in a transfer or series of transfers described in 
proposed Sec.  1.361-5(b)(2)(ii)(A).
c. Eligible Distributing Corporation Debt
i. In General
    Proposed Sec.  1.361-5(c)(1) would provide that distributing 
corporation debt is not eligible to be satisfied with section 361 
consideration under proposed Sec.  1.361-5(a) unless that debt 
qualifies as eligible distributing corporation debt.
(a) Historical Distributing Corporation Debt
    In general, proposed Sec.  1.361-5(c)(2)(i) would provide that 
distributing corporation debt that qualifies as historical distributing 
corporation debt is eligible to be satisfied with section 361 
consideration. In general, distributing corporation debt qualifies as 
historical distributing corporation debt if that debt was incurred 
before the ``earliest applicable date,'' and that debt has an original 
term that ends after the date of the exchange described in Sec.  1.361-
2(a) or 1.361-3(a) and is identified in the plan of reorganization or 
original plan of reorganization (if amended). The ``earliest applicable 
date'' is defined in proposed Sec.  1.361-1(b)(27) as the earliest date 
of three specified events: (i) the date of the first public 
announcement (as defined in Sec.  1.355-7(h)(10)) of the divisive 
reorganization or a similar transaction; (ii) the date the distributing 
corporation entered into a written agreement to effectuate the divisive 
reorganization or a similar transaction; and (iii) the date the 
distributing corporation's board of directors approved the divisive 
reorganization or a similar transaction.
    However, the Treasury Department and the IRS are of the view that a 
debt refinancing exception would be appropriate to help achieve the 
transaction facilitation objective. Specifically, proposed Sec.  1.361-
5(c)(2)(ii) would provide that distributing corporation debt incurred 
by the distributing corporation after the earliest applicable date is 
treated as historical distributing corporation debt only if the 
following four requirements are met. First, proposed Sec.  1.361-
5(c)(2)(ii)(A) would provide that the distributing corporation debt 
must be (i) a refinancing of historical distributing corporation debt, 
or (ii) a refinancing of refinanced historical distributing corporation 
debt (that is, the debt must be traced directly through one or more 
refinancings to debt that qualifies as historical distributing 
corporation debt). Second, proposed Sec.  1.361-5(c)(2)(ii)(B) would 
provide that the refinanced historical distributing corporation debt 
must not have been incurred as part of a plan to incur debt in addition 
to historical distributing corporation debt determined under proposed 
Sec.  1.361-5(c)(2)(i) (or an amount of debt in addition to the amount 
of historical distributing corporation debt determined under paragraph 
(d) of that section, without regard to proposed Sec.  1.361-
5(d)(2)(iv)) in anticipation of the divisive reorganization (for 
example, the incurrence of the refinanced historical distributing 
corporation debt would have occurred without regard to the divisive 
reorganization). Third, proposed Sec.  1.361-5(c)(2)(ii)(C) would 
provide that the distributing corporation must engage in a qualifying 
debt elimination transaction solely under proposed Sec.  1.361-5(e)(3) 
or (4) to eliminate that refinanced historical distributing corporation 
debt. Fourth, proposed Sec.  1.361-5(c)(2)(ii)(D) would provide that 
the qualifying debt elimination transaction must be described and 
identified in the plan of reorganization or original plan of 
reorganization (if amended) for the divisive reorganization.
    Proposed Sec.  1.361-5(c)(2)(iii) would provide that a revolving 
credit agreement to which the distributing corporation is a debtor 
qualifies as historical distributing corporation debt only if the 
following requirements are met. First, the distributing corporation 
must have entered into the agreement before the earliest applicable 
date. Second, the agreement does not expire until after the date of the 
exchange described in proposed Sec.  1.361-2(a) or 1.361-3(a). Third, 
the agreement is identified in the plan of reorganization or original 
plan of reorganization (if amended). The Treasury Department and the 
IRS request comments regarding whether there are other arrangements 
similar to revolving credit agreements that, based on the same 
rationale employed by these proposed regulations, should be treated 
similarly.
(b) Qualifying Trade Payables
    Proposed Sec.  1.361-5(c)(2)(iv) would provide that qualifying 
trade payables are eligible to be satisfied with section 361 
consideration. For purposes of that qualification, the following 
requirements must be met. First, the trade payables must be described 
in a plan of reorganization or original plan of reorganization (if 
amended). Second, the trade payables must have been incurred in the 
ordinary course of business of the distributing corporation. Third, the 
satisfaction of such trade payables is necessary (A) to ensure the 
allocation to the controlled corporation of all liabilities properly 
associated with the business assets transferred to that corporation and 
(B) to result in the controlled corporation being allocated liabilities 
in an amount that properly relates to its business operations, the 
earnings of which will be used to properly satisfy those liabilities.
(c) Direct Issuance Debt
    These proposed regulations would also provide that direct issuance 
debt is eligible to be satisfied with section 361 consideration. 
Specifically, proposed Sec.  1.361-5(c)(2)(v) would provide that direct 
issuance debt incurred as part of a direct issuance transaction (as 
defined in proposed Sec.  1.361-1(b)(17)) satisfying the requirements 
of proposed Sec.  1.361-5(e)(4) is eligible to be satisfied with 
section 361 consideration. See the discussion in part IV.C.3.d.iv 
regarding qualifying direct issuance transactions.
ii. Amount of Distributing Corporation Debt Repaid
    Under proposed Sec.  1.361-5(d)(1), the maximum amount of 
distributing corporation debt that can be satisfied with section 361 
consideration under proposed Sec.  1.361-5(a) would equal the amount 
obtained by subtracting the aggregate amount of distributing 
corporation debt that the controlled corporation assumes (in accordance 
with proposed Sec. Sec.  1.357-2 through 1.357-4) pursuant to the plan 
of reorganization from the lesser of (i) the

[[Page 5246]]

aggregate amount of distributing corporation debt (as determined under 
proposed Sec.  1.361-5(c)(3)), and (ii) the aggregate amount of 
distributing corporation debt determined under the eight-quarterly-
average test set forth in proposed Sec.  1.361-5(d)(2). The Treasury 
Department and the IRS are of the view that incorporating the IRS's 
long-standing, quarterly average test for advance ruling purposes 
(which was expanded to an eight-quarterly-average test in Rev. Proc. 
2018-53 to provide a more accurate determination) into this computation 
would help achieve the increased certainty objective of these proposed 
regulations.
(a) Aggregate Amount of Distributing Corporation Debt
    Under proposed Sec.  1.361-5(c)(3)(ii), the aggregate amount of 
distributing corporation debt would include solely the amounts 
described in proposed Sec.  1.361-5(c)(3)(ii)(A) through (E), as 
applicable, taking into account any reduction required by proposed 
proposed Sec.  1.361-5(c)(3)(iii) (that is, offsetting debts). 
Specifically, proposed Sec.  1.361-5(c)(3)(ii)(A) would provide that 
the aggregate amount of historical distributing corporation debt would 
equal the aggregate remaining principal amount, as of the earliest 
applicable date, of all historical distributing corporation debt other 
than historical distributing corporation debt that is eliminated as 
part of a qualifying direct issuance transaction. With regard to 
refinanced distributing corporation debt, proposed Sec.  1.361-
5(c)(3)(ii)(B) would provide that, if the distributing corporation 
relies on the refinancing exception for historical distributing 
corporatrion debt under proposed Sec.  1.361-5(c)(2)(ii), then the 
amount of that debt distributing corporation debt would equal the 
lesser of (i) the original principal amount of the refinanced 
distributing corporation debt and (ii) the principal amount of the 
original historical distributing corporation debt (that is, the 
distributing corporation debt to which the refinanced distributing 
corporation debt is traced) as of the earliest applicable date. With 
regard to a revolving credit agreement that satisfies the requirements 
set forth in Sec.  1.361-5(c)(2)(iii), proposed Sec.  1.361-
5(c)(3)(ii)(C) would provide that the amount of that debt would be the 
lesser of (i) the balance under that agreement as of the earliest 
applicable date (and not the maximum amount that could be incurred by 
the distributing corporation under that agreement), and (ii) the lowest 
balance under the agreement beginning on the earliest applicable date 
and ending on the control distribution date.
    Additionally, proposed Sec.  1.361-5(c)(3)(ii)(D) would provide 
that the amount of qualifying trade payables would equal the aggregate 
amount of those payables on the date of the exchange described in 
proposed Sec.  1.361-2(a) or 1.361-3(a). With regard to direct issuance 
debt, proposed Sec.  1.361-5(c)(3)(ii)(E) would provide that the amount 
of that debt would equal the aggregate principal amount of that debt on 
the date exchange described in proposed Sec.  1.361-2(a) or 1.361-3(a).
    Lastly, proposed Sec.  1.361-5(c)(3)(iii) would require the 
aggregate amount of distributing corporation debt be reduced to reflect 
certain offsetting debts. That is, if the distributing corporation is a 
creditor, and if the debtor with respect to that debt is a creditor 
with respect to distributing corporation debt, the distributing 
corporation would be required to reduce the aggregate principal amount 
of its distributing corporation debt by the aggregate principal amount 
of debt issued to that other person for purposes of the computation 
under proposed Sec.  1.361-5(c)(3)(ii). This proposed rule also would 
include reductions to account for revolving credit agreements.
(b) Eight-Quarterly-Average Test
    Proposed Sec.  1.361-5(d)(2)(i) would provide that, under the 
eight-quarterly-average test, the aggregate amount of distributing 
corporation debt generally would equal the average of the amount of 
distributing corporation debt owed to persons other than distributing 
corporation related persons as of the close of each of the eight fiscal 
quarters that end immediately before the earliest applicable date. 
Proposed Sec.  1.361-5(d)(2)(ii) and (iii) would provide additional 
rules to address (i) the calculation of distributing corporation debt 
at the close of each quarter, and (ii) distributing corporation debt 
held by distributing corporation related persons.
d. Qualifying Debt Elimination Transactions
i. Overview
    The Treasury Department and the IRS are proposing bright-line rules 
for qualifying debt elimination transactions to achieve the transaction 
facilitation and increased certainty objectives for these proposed 
regulations. The determination of whether a debt elimination 
transaction qualifies under section 361(b)(3) and (c)(3), and the 
extent of that qualification, has created more uncertainty for 
taxpayers and the IRS than perhaps any other issue arising from 
divisive reorganizations. With these proposed rules, the Treasury 
Department and the IRS are seeking to strike a balance that would 
facilitate intermediated exchanges and direct issuance transactions in 
a manner that (i) is consistent with the Code (particularly sections 
355, 361, and 368) and underlying legislative history, and (ii) 
facilitates IRS administration and enforcement.
ii. Section 361 Transactions in Which No Intermediary is Used
    Proposed Sec.  1.361-5(e)(2) would set forth rules for qualifying 
original creditor exchanges. Specifically, proposed Sec.  1.361-5(e)(2) 
would provide that the satisfaction of distributing corporation debt 
with section 361 consideration in an exchange not described in proposed 
Sec.  1.361-5(e)(3) or (4) is treated as a qualifying debt elimination 
transaction (that is, the exchange will be treated as a nonrecognition 
transaction for Federal income tax purposes) if all applicable 
requirements set forth in proposed Sec.  1.361-5(b) through (d) are 
satisfied. In particular, proposed Sec.  1.361-5(c)(2)(ii)(C) would 
provide that the refinancing exception set forth in proposed Sec.  
1.361-5(c)(2)(ii) would not apply to distributing corporation debt that 
is refinanced and then eliminated in a qualifying original creditor 
exchange. In other words, for a distributing corporation to apply that 
refinancing exception, the distributing corporation would be required 
to engage in a qualifying intermediated exchange or a qualifying direct 
issuance transaction (as discussed in parts IV.C.3.d.iii and iv of this 
Explanation of Provisions).
iii. Qualifying Intermediated Exchanges
    Under proposed Sec.  1.361-5(e)(3), an intermediated exchange would 
not qualify as a qualifying debt elimination transaction unless certain 
requirements are satisfied. First, proposed Sec.  1.361-5(e)(3)(i)(A) 
generally would prohibit the holder of historical distributing 
corporation debt that will be satisfied with section 361 consideration 
from holding that debt for the benefit of the distributing corporation, 
the controlled corporation, a distributing corporation related person, 
or a controlled corporation related person. However, under proposed 
Sec.  1.361-5(e)(3)(i)(B) this prohibition would not apply to a 
collateral benefit (such as the efficient purchase by an intermediary 
of historical distributing debt on the open market) received by a 
distributing corporation or a distributing corporation related person, 
from the intermediary's

[[Page 5247]]

facilitation of the transfer of section 361 consideration in 
satisfaction of historical distributing corporation debt.
    Second, proposed Sec.  1.361-5(e)(3)(ii) would prohibit the 
intermediary from acquiring historical distributing corporation debt 
that is satisfied with section 361 consideration from the distributing 
corporation, the controlled corporation, or any distributing 
corporation related person or controlled corporation related person. 
However, under proposed Sec.  1.361-5(c)(2)(ii)(A) the refinancing 
exception set forth in proposed Sec.  1.361-5(c)(2)(ii) would be 
available for distributing corporations that engage in qualifying 
intermediated exchanges. The Treasury Department and the IRS are of the 
view that this exception would help achieve the transaction 
facilitation objective by providing distributing corporations with 
significant flexibility to engage in debt elimination transactions 
under section 361 with debt refinanced after the earliest applicable 
date.
    Third, the proposed regulations would impose long-standing 
requirements consistent with the analysis in the aforementioned 
technical advice memoranda addressing intermediated exchanges under 
former section 108. Specifically, proposed Sec.  1.361-5(e)(3)(iii) 
would require the intermediary and the distributing corporation to 
effectuate the exchange of section 361 consideration for historical 
distributing corporation debt based on terms and conditions arrived at 
by the parties bargaining at arm's length.
    Fourth, proposed Sec.  1.361-5(e)(3)(iv) would prohibit the 
distributing corporation, the controlled corporation, and any 
distributing corporation related person or controlled corporation 
related person from (i) participating in any profit gained by the 
intermediary upon the exchange of section 361 consideration, or (ii) 
limiting the intermediary's profit by agreement or other arrangement.
    Fifth, proposed Sec.  1.361-5(e)(3)(v)(A) and (B) would require the 
intermediary (i) to act for its own account with regard to all 
components of the intermediated exchange, and (ii) bear the risk of 
loss with regard to the historical distributing corporation debt and 
any subsequent disposition of any section 361 consideration received in 
the exchange. Accordingly, proposed Sec.  1.361-5(e)(3)(v)(C) would 
prohibit the intermediary from entering into a variable pricing 
agreement or similar arrangement with the distributing corporation, the 
controlled corporation, or any distributing corporation related person 
or controlled corporation related person (for example, agreements 
between the intermediary and the distributing corporation requiring 
``true-up'' payments would be prohibited).
    Finally, proposed Sec.  1.361-5(e)(3)(vi) would require the 
intermediary to hold the historical distributing corporation debt for a 
period of not less than 30 days ending on the control distribution 
date. Based on feedback from stakeholders, the Treasury Department and 
the IRS are of the view that providing a bright-line rule would help 
achieve the transaction facilitation and increased certainty objectives 
of these proposed regulations. The proposed rule would depart from the 
facts-and-circumstances approach set forth in Rev. Proc. 2018-53.
iv. Qualifying Direct Issuance Transaction
    Under proposed Sec.  1.361-5(e)(4), a direct issuance transaction 
would not qualify as a qualifying debt elimination transaction unless 
certain requirements are satisfied. For this purpose, proposed Sec.  
1.361-1(b)(17) would define the term ``direct issuance transaction'' to 
mean a transaction, or a series of transactions (or similar transaction 
or series of transactions), in which (i) the distributing corporation 
incurs distributing corporation debt with a creditor after the earliest 
applicable date, (ii) the distributing corporation uses the proceeds of 
the newly incurred distributing corporation debt (directly or 
indirectly) to repay historical distributing corporation debt, and 
(iii) the new creditor exchanges that newly incurred distributing 
corporation debt for controlled corporation stock or securities held by 
the distributing corporation.
    First, proposed Sec.  1.361-5(e)(4)(i)(A) would require that a 
direct issuance transaction be determined to comprise a transfer by the 
distributing corporation of section 361 consideration to the creditor 
in exchange for the satisfaction of distributing corporation debt held 
by that creditor (direct issuance debt), and not a sale by the 
distributing corporation of section 361 consideration to the creditor 
for the proceeds of that direct issuance debt, for Federal income tax 
purposes. Proposed Sec.  1.361-5(e)(4)(i)(B) would provide that that 
determination is made based on all relevant provisions of the Code and 
general principles of Federal income tax law, including the step 
transaction doctrine. Proposed Sec.  1.361-5(e)(4)(i)(B) also would 
provide that the substance of the direct issuance transaction must be 
determined, pursuant to all relevant provisions of the Code and general 
principles of Federal income tax law, before the requirements of 
section 361 can be applied.
    Second, proposed Sec.  1.361-5(e)(4)(ii)(A) would provide that, 
unless the transaction satisfies the safe harbor under proposed Sec.  
1.361-5(e)(4)(iii), the determination of whether a direct issuance 
transaction is an exchange under section 361, and not a sale, is made 
using a facts-and-circumstances test. For this purpose, proposed Sec.  
1.361-5(e)(4)(ii)(B) would provide a set of factors to be used in 
determining whether the direct issuance transaction exchange qualifies 
as an exchange under section 361. Proposed Sec.  1.361-5(e)(4)(ii)(B) 
would provide that each of the specified factors represents either 
evidence of qualification or non-qualification as an exchange. The 
strength of evidence provided by the factors is determined based on an 
analysis of all relevant facts and circumstances.
(a) Prescribed Factors for Facts-and-Circumstances Test
    First, proposed Sec.  1.361-5(e)(4)(ii)(B)(1) would provide that an 
exchange of section 361 consideration by the distributing corporation 
with a creditor occurs pursuant to an arrangement that comprises part 
of a prearranged, integrated plan is substantial evidence of non-
qualification, whereas, an exchange that does not occur pursuant to an 
arrangement that comprises part of a prearranged, integrated plan is 
evidence of qualification.
    Second, proposed Sec.  1.361-5(e)(4)(ii)(B)(2)(i) would provide 
that, if any one of the following requirements are not met, the failure 
of any one requirement is evidence of non-qualification: (1) an 
exchange of section 361 consideration for refinanced historical 
distributing corporation debt between the distributing corporation and 
the creditor must be effectuated based on arm's-length terms and 
conditions; (2) neither the distributing corporation, controlled 
corporation, nor any distributing controlled corporation related person 
or controlled corporation related person participates in any profit 
gained by the creditor upon the exchange of section 361 consideration, 
or limits by agreement or other arrangement any profit of the creditor 
gained upon the exchange of section 361 consideration; (3) the creditor 
acts for its own account with regard to all components of the direct 
issuance transaction; and (4) the creditor bears the risk of loss with 
respect to the refinanced historical distributing corporation debt and 
any subsequent sale or other disposition of section 361

[[Page 5248]]

consideration transferred to the creditor in satisfaction of the 
refinanced historical distributing corporation debt. However, pursuant 
to proposed Sec.  1.361-5(e)(4)(ii)(B)(2)(iii), the satisfaction of all 
these aforementioned requirements is substantial evidence of 
qualification.
    Third, proposed Sec.  1.361-5(e)(4)(ii)(B)(3) would provide that, 
if the creditor holds the refinanced historical distribution 
corporation debt for a period of less than 30 days ending on the 
control distributing date, then that fact is evidence of non-
qualification. Conversely, if the creditor holds that debt for a period 
of at least 30 days ending on control distribution, then that fact is 
evidence of qualification.
    Fourth, proposed Sec.  1.361-5(e)(4)(ii)(B)(4) would provide that 
if the distributing corporation has legal or practical dominion or 
control over any proceeds of the refinanced historical distributing 
corporation debt (as determined in accordance with Sec.  1.357-(e)(2)), 
then that fact is substantial evidence of non-qualification. However, 
the distributing corporation's lack of legal or practical dominion or 
control over any of those proceeds is substantial evidence of 
qualification.
    Fifth, proposed Sec.  1.361-5(e)(4)(ii)(B)(5) provides that if the 
distributing corporation issued the refinanced historical distributing 
corporation debt with a principal purpose of avoiding any of the 
requirements or limitations of section 361, then that fact is evidence 
of non-qualification.
(b) Safe Harbor for Direct Issuance Transactions
    Proposed Sec.  1.361-5(e)(4)(iii) would provide a safe harbor for 
direct issuance transactions. A direct issuance transaction would 
qualify under the safe harbor to be treated as a qualifying debt 
elimination transaction only if all the following requirements are 
satisfied: (1) the distributing corporation does not have, at any time, 
legal or practical dominion or control over any proceeds of the 
refinanced historical distributing corporation debt, as determined in 
accordance with Sec.  1.357-(e)(2); (2) the creditor holds the 
refinanced historical distributing corporation debt for a period of not 
less than 30 days ending on the control distribution date; (3) each 
exchange of section 361 consideration for refinanced historical 
distribution corporation debt between the distributing corporation and 
the creditor is effectuated on arm's-length terms and conditions; (4) 
none of the distributing corporation, controlled corporation, or any 
distributing controlled corporation related person or controlled 
corporation related person participates in any profit gained by the 
creditor upon the exchange of section 361 consideration, or limits by 
agreement or other arrangement any profit gained by the creditor upon 
the exchange of section 361 consideration; (5) the creditor acts for 
its own account with regard to all components of the direct issuance 
transaction; and (6) the creditor bears the risk of loss with respect 
to the refinanced historical distributing corporation debt and any 
subsequent sale or other disposition of section 361 consideration 
transferred to the creditor in satisfaction of the refinanced 
historical distributing corporation debt. For purposes of the 
proceeding requirement, proposed Sec.  1.361-5(e)(4)(iv) would provide 
that the creditor is not treated as bearing the risk of loss with 
respect to the refinanced historical distributing corporation debt if 
the creditor enters into a variable pricing or similar arrangement with 
the distributing corporation (or a controlled corporation, distributing 
corporation related person, or controlled corporation related person) 
with regard to any section 361 consideration.

V. Federal Income Tax Treatment and Consequences of Post-Distribution 
Payments

A. Notice 2024-38

    As stated in section 2.02(6) of Notice 2024-38, the Treasury 
Department and the IRS are considering the application of the Code to 
post-distribution payments. Proposed Sec.  1.361-1(b)(42) would define 
a ``post-distribution payment'' as a transfer of money or other 
property by the controlled corporation to the distributing corporation 
(or vice versa) after the control distribution date pursuant to the 
plan of reorganization.
    In Notice 2024-38, the Treasury Department and the IRS expressed 
the view that a post-distribution payment is treated as section 361 
consideration only if the taxpayer establishes that (i) the character 
of the payment for Federal income tax purposes is section 361 
consideration, (ii) as of the first distribution date, the fair market 
value of the distributing corporation's right to receive the payment 
was not (or will not be) reasonably ascertainable (see Burnet v. Logan, 
283 U.S. 404, 413 (1931)), and (iii) the payment will be properly 
accounted for when received. For the avoidance of doubt, the Treasury 
Department and the IRS also expressed the view in Notice 2024-38 that 
Arrowsmith v. Commissioner, 344 U.S. 6 (1952), applies solely to the 
requirement described in clause (i) of the preceding sentence (that is, 
characterization of the post-distribution payment for Federal income 
tax purposes).

B. Stakeholder Input

    As an initial matter, stakeholders have stated in their feedback 
that post-distribution payments between the distributing corporation 
and the controlled corporation in connection with both section 355(c) 
transactions and divisive reorganizations are subject to different 
doctrines (for example, Arrowsmith or the open transaction doctrine) 
depending on the facts and circumstances. Due to the variable fact 
patterns, the non-recurring nature of such payments, and the complex 
interplay of the legal provisions governing such payments, one 
stakeholder has contended that additional substantive guidance (for 
example, in the form of Treasury regulations) would not be appropriate, 
and that the Treasury Department and the IRS should continue to address 
this topic through the IRS's private letter ruling program.
    Stakeholders also have contended that indemnification payments made 
under the governing transaction documents, which constitute the 
overwhelming majority of post-distribution payments, clearly are 
subject to the Arrowsmith doctrine and should be characterized as 
either (i) a contribution by the distributing corporation to the 
controlled corporation, or (ii) a payment of section 361 consideration 
by the controlled corporation to the distributing corporation, unless 
the transaction documents result in the assumption of a liability under 
section 357(d). Accordingly, other than limited guidance with respect 
to the treatment of so-called ``indemnity purges'' (that is, the 
distributing corporation's satisfaction of a liability with cash on 
hand and subsequent reimbursement by the controlled corporation), 
stakeholders have expressed the view that substantive guidance is 
unnecessary.
    With regard to such indemnity purges, stakeholders have recommended 
different approaches for the proposed regulations. One stakeholder has 
recommended (i) treating the distributing corporation's receipt of the 
indemnity payment from the controlled corporation as section 361 
consideration, and (ii) treating the distributing corporation's payment 
of the indemnified liability as a transfer of such section 361 
consideration to a creditor in satisfaction of section 361(b)(3) (that 
is, a post-distribution

[[Page 5249]]

payment). Alternatively, other stakeholders have suggested (i) treating 
the liability giving rise to the indemnity payment as having been 
assumed by the controlled corporation under the principles of section 
357(d), and (ii) treating the distributing corporation as having 
received payment from, and as making a payment to satisfy the liability 
as an agent of, the controlled corporation.

C. Proposed Regulations

1. General Treatment of Target Corporations Under Section 361(a)
    Consistent with section 361(a), these proposed regulations 
generally would provide that a target corporation (including a 
distributing corporation) that is a party to a reorganization does not 
recognize gain or loss on its transfer of property to an acquiring 
corporation (including a controlled corporation) if the following three 
requirements are satisfied. First, proposed Sec.  1.361-2(a)(1) would 
require that the acquiring corporation (or a corporation controlling 
the acquiring corporation) must be a party to the reorganization. 
Second, proposed Sec.  1.361-2(a)(2) would require that the target 
corporation must receive solely stock or securities of the acquiring 
corporation (or the corporation controlling the acquiring corporation) 
in exchange for the transferred property. Third, proposed Sec.  1.361-
2(a)(3) would require that the exchange must occur pursuant to the plan 
of reorganization.
2. Receipt of Money or Other Property
a. In General
    If proposed Sec.  1.361-2(a) would apply to an exchange between a 
target corporation and an acquiring corporation but for the fact that 
the target corporation receives money or other property in addition to 
stock and securities of the acquiring corporation (or of a corporation 
controlling the acquiring corporation), then proposed Sec.  1.361-3 
would govern the exchange. See Sec. Sec.  1.361-2(b) and 1.361-3(a)(1).
    In general, proposed Sec.  1.361-3(b)(1) and (2) would provide 
that, in an acquisitive reorganization, the target corporation does not 
recognize gain on the receipt of money or other property provided that, 
pursuant to the plan of reorganization, the target corporation 
distributes the money or other property to its shareholders or 
transfers that property to a creditor in satisfaction of target 
corporation debt.
    Additional requirements would apply in the case of a divisive 
reorganization. In that case, proposed Sec.  1.361-3(c)(1) would 
provide that the distributing corporation does not recognize gain on 
the exchange if, pursuant to the plan of reorganization, (i) the 
distributing corporation deposits the money received in the exchange in 
a segregated account, and (ii) the distributing corporation distributes 
the money or other property received in the exchange to the 
distributing corporation's shareholders no later than the end of the 
12-month period beginning on the date of the exchange. Under proposed 
Sec.  1.361-3(c)(2)(i), similar rules would apply with respect to 
transfers of the money or other property received in the exchange to 
creditors of the distributing corporation in satisfaction of 
distributing corporation debt.
    However, under proposed Sec.  1.361-3(c)(2)(ii), the aggregate 
amount of money and the fair market value of other property transferred 
to creditors that is treated as distributed to shareholders would be 
limited to the amount by which the aggregate adjusted basis of the 
assets transferred by the distributing corporation to the controlled 
corporation exceeds the aggregate amount of distributing corporation 
liabilities assumed by the controlled corporation. Moreover, transfers 
to creditors of the distributing corporation would be subject to the 
requirements set forth in proposed Sec.  1.361-5. See the prior 
discussion in part IV.C.3 of this Explanation of Provisions. Consistent 
with the Treasury Department's and the IRS's efforts to encourage 
taxpayers to undertake bona fide corporate reorganizations by providing 
sufficient transactional flexibility, the proposed regulations 
governing transfers of section 361 consideration to creditors would be 
based in part on whether such transfers occur pursuant to a target 
corporation's (including a distributing corporation's) plan of 
reorganization. See the prior discussion in part III.C of this 
Explanation of Provisions.
    Under proposed Sec.  1.361-3(d), the failure to distribute the 
money or other property received in the exchange in the manner set 
forth in proposed Sec.  1.361-3(b) or (c) would result in the 
recognition of gain by the target corporation. The amount of gain 
recognized would not exceed the sum of (i) the amount of money received 
but not distributed, and (ii) the fair market value of the other 
property received but not distributed. Consistent with section 
361(b)(2), proposed Sec.  1.361-3(e) would provide that the target 
corporation does not recognize a loss if it receives money or other 
property in addition to stock or securities of the acquiring 
corporation.
b. Treatment of Post-Distribution Payments
i. In General
    Proposed Sec.  1.361-3(c)(3) would provide that, in a divisive 
reorganization in which the distributing corporation receives a post-
distribution payment, the distributing corporation does not recognize 
any gain under proposed Sec.  1.361-3(c)(1) or (2) only if three 
conditions are satisfied. First, the post-distribution payment 
constitutes section 361 consideration for Federal income tax purposes. 
Second, the distributing corporation places the post-distribution 
payment in a segregated account pursuant to the plan of reorganization. 
Third, pursuant to the plan of reorganization, the distributing 
corporation distributes the post-distribution payment to its 
shareholders or to its creditors (in satisfaction of distributing 
corporation debt in a transfer meeting the requirements set forth in 
proposed Sec.  1.361-5) by the later of (i) 90 days after the date on 
which the distributing corporation receives the post-distribution 
payment, or (ii) the end of the 12-month period beginning on the date 
of the exchange described in proposed Sec.  1.361-3(a)(1).
    For purposes of proposed Sec.  1.361-3(c)(3), a post-distribution 
payment would constitute section 361 consideration (and not, for 
example, a separate payment for goods or services) for Federal income 
tax purposes only if the three requirements in proposed Sec.  1.361-
3(c)(3)(i) are satisfied. First, the payment must properly be 
characterized for Federal income tax purposes as consideration that the 
distributing corporation receives in the exchange described in proposed 
Sec.  1.361-3(a)(1). See generally Arrowsmith, 344 U.S. 6. Second, the 
fair market value of the distributing corporation's right to receive 
the post-distribution payment must not be reasonably ascertainable as 
of the exchange date. See generally Burnet, 283 U.S. 404. Third, the 
distributing corporation must properly account for the payment upon 
receipt, in accordance with the plan of reorganization.
    Similar rules would apply to the receipt of a post-distribution 
payment by a controlled corporation. In this respect, proposed Sec.  
1.361-3(c)(4) would provide that, if a controlled corporation receives 
a post-distribution payment, the aggregate adjusted basis of the assets 
transferred by the distributing corporation to the controlled 
corporation is increased for purposes of proposed Sec.  1.361-
3(c)(2)(ii) only if three requirements similar to those described in 
the prior paragraph are satisfied.

[[Page 5250]]

ii. Treatment of Payments Under Indemnification Agreements
    These proposed regulations would not treat payments made in respect 
of indemnification agreements as post-distribution payments in certain 
circumstances. Instead, proposed Sec.  1.357-2(e)(2)(iii)(A) would 
treat (i) the underlying liability as having been assumed by the 
controlled corporation, and (ii) the receipt of the indemnification 
payment as not within the legal or practical dominion or control of the 
distributing corporation for purposes of proposed Sec.  1.357-2(e)(1). 
See the discussion in part VIII.B.3.b of this Explanation of 
Provisions.
3. Treatment of Distributions
a. Qualified Property
    Consistent with section 361(c)(1), proposed Sec.  1.361-4(a)(1) 
generally would provide that a target corporation (including a 
distributing corporation) recognizes no gain or loss on a distribution 
of qualified property to its shareholders pursuant to a plan of 
reorganization. Proposed Sec.  1.361-4(a)(2)(i) would provide that the 
target corporation in an acquisitive reorganization is treated as 
distributing qualified property to its shareholders for purposes of 
proposed Sec.  1.361-4(a)(1) if the target corporation transfers 
qualified property to a creditor pursuant to the plan of reorganization 
and in satisfaction of target corporation debt. To obtain similar 
treatment in the case of a divisive reorganization, proposed Sec.  
1.361-4(a)(2)(ii) would provide that the distributing corporation's 
transfer of qualified property to a creditor in satisfaction of 
distributing corporation debt also must meet the requirements in Sec.  
1.361-5.
b. Appreciated Nonqualified Property
    Under proposed Sec.  1.361-4(b)(1) and (c), if a target corporation 
distributes appreciated nonqualified property to its shareholders 
pursuant to a plan of reorganization, the target corporation would 
recognize gain (but not loss) as if it sold the property to its 
shareholders at the property's fair market value. Proposed Sec.  1.361-
4(b)(2) would provide that, if such property is subject to a liability, 
or if a shareholder assumes a liability of the target corporation in 
connection with the distribution, the fair market value of that 
property for purposes of proposed Sec.  1.361-4(b)(1) is treated as an 
amount not less than the amount of that liability.
    For this purpose, proposed Sec.  1.361-1(b)(4) would define 
``appreciated nonqualified property'' as property other than qualified 
property that, at the time of the distribution of that property, has a 
fair market value that exceeds its adjusted basis in the hands of the 
target corporation. For example, appreciated nonqualified property 
would include controlled corporation stock or securities held by the 
distributing corporation prior to the exchange under section 361. The 
definition in proposed Sec.  1.361-1(b)(4) also would include all 
controlled corporation stock or securities that (i) is treated as other 
property under section 355(a)(3)(B), (ii) is distributed in a 
disqualified distribution (as defined in section 355(d)(2)), or (iii) 
is distributed by a distributing corporation pursuant to an acquisition 
described in section 355(e)(2).

VI. Effect of Transaction Related to Divisive Reorganization on 
Controlled Securities

A. Notice 2024-38

    As stated in section 2.02(7) of Notice 2024-38, the Treasury 
Department and the IRS are considering the impact of the application of 
general Federal income tax principles (including the substance-over-
form doctrine and other relevant theories) to acquisitions of a 
controlled corporation following the control distribution date that 
result in a modification of the controlled corporation's securities. 
For example, the Treasury Department and the IRS are considering 
whether general Federal income tax principles could preclude 
qualification under section 361(c)(3) if (i) the controlled corporation 
issued securities that were treated by the distributing corporation as 
section 361 consideration that could be used to satisfy its creditors, 
and (ii) the controlled corporation subsequently merged into an 
acquiring corporation in a transaction resulting in the modification of 
those securities. In response to feedback received following the 
publication of Rev. Proc. 2018-53, Notice 2024-38 stated the view of 
the Treasury Department and the IRS that Rev. Rul. 98-27, 1998-1 C.B. 
1159, is not relevant for determining whether any such transaction or 
series of transactions should cause the divisive reorganization to be 
recast, because that revenue ruling addresses solely whether the 
controlled corporation was a ``controlled corporation'' under section 
355(a) immediately before the distribution. See also generally Rev. 
Rul. 98-44, 1998-2 C.B. 315.

B. Stakeholder Input

    Stakeholders have suggested that the focus on debt instrument 
modifications in Notice 2024-38 is directed toward transactions 
involving a post-distribution merger of a controlled corporation into a 
third-party corporation and whether the purported controlled 
corporation debt should be treated as qualified property for purposes 
of section 361(c)(2)(B). Stakeholders have requested clarification that 
controlled corporation debt will not be treated as non-qualified 
property to the extent that (i) modifications of such debt are not 
``significant modifications'' within the meaning of Sec.  1.1001-3 
(disregarded modifications), or (ii) the modifications are a 
``significant modification'' under Sec.  1.1001-3 as a result of which 
the holder of such debt is treated as receiving a new debt instrument 
in a nonrecognition transaction (nonrecognition modifications).
    Stakeholders also have recommended that a deemed or unplanned 
transaction occurring after the distribution should not cause the 
controlled corporation's debt to be treated as something other than 
controlled corporation debt for purposes of section 361(c). 
Additionally, stakeholders have asserted that (i) step transaction 
principles should not be applied to the extent the result of the 
transaction is consistent with the policies of section 361, and (ii) a 
recast of the transaction would be at odds with the provisions of Sec.  
1.1001-3 applicable to nonrecognition modifications.
    Stakeholders have recommended that, if guidance is issued on this 
topic, safe harbors should be provided with respect to both disregarded 
modifications and nonrecognition modifications to allow controlled 
corporation debt to be treated as qualified property under section 
361(c).

C. Proposed Regulations

    The Treasury Department and the IRS anticipate providing proposed 
guidance on this topic as part of a guidance package that includes the 
finalization of these proposed regulations. The Treasury Department and 
the IRS believe that additional study and stakeholder feedback would be 
appropriate, rather than the publication of proposed rules at this 
time. It is the position of the Treasury Department and the IRS that 
the series of transactions described in section 2.02(7) of Notice 2024-
38 merit additional scrutiny but, until the completion of this study, 
should be addressed by the IRS on a case-by-case basis. With regard to 
additional stakeholder feedback on this topic, the Treasury Department 
and the IRS particularly would welcome suggestions on appropriate 
bright-line

[[Page 5251]]

rules or safe harbors, as well as supporting analysis that discusses 
how those suggestions would balance the compliance, increased 
certainty, and transaction facilitation objectives that guide these 
proposed regulations.
    As set forth in section 2.02(7) of Notice 2024-38, the Treasury 
Department and the IRS do not view Rev. Rul. 98-27 and Rev. Rul. 98-44 
as determinative for questions regarding the impact of the application 
of general Federal income tax principles to acquisitions of a 
controlled corporation following the control distribution date that 
result in a modification of the controlled corporation's securities. 
For the avoidance of doubt, and consistent with the discussion in part 
IV.C.1 of this Explanation of Provisions, this view of the Treasury 
Department and the IRS also directly extends to Rev. Rul. 2003-79, 
2003-29 I.R.B. 80. None of Rev. Rul. 98-27, Rev. Rul. 98-44, or Rev. 
Rul. 2003-79 sets forth broadly applicable principles regarding the 
application of the step transaction or substance-over-form doctrines 
beyond the fact patterns directly addressed by those rulings.

VII. Replacement of Distributing Debt

A. Notice 2024-38

    As stated in section 2.02(8) of Notice 2024-38, the Treasury 
Department and the IRS are considering the application of the Code to 
borrowings by a distributing corporation that replace distributing 
corporation debt satisfied with section 361 consideration in a divisive 
reorganization. The Treasury Department and the IRS are concerned that, 
in certain circumstances, the replacement of distributing corporation 
debt that was satisfied with section 361 consideration could be used as 
an artifice for increasing the aggregate debt and other liabilities of 
the distributing corporation and the controlled corporation.
    As one example, the Treasury Department and the IRS have considered 
situations in which, as of the date on which assets are contributed to 
a controlled corporation in a divisive reorganization, the distributing 
corporation anticipates entering into a borrowing that effectively 
reverses the de-leveraging achieved through the distribution of section 
361 consideration pursuant to the plan of reorganization. Such a 
borrowing would render the de-leveraging merely transitory and without 
real economic effect. As emphasized in Notice 2024-38, the Treasury 
Department and the IRS are concerned that this result resembles a 
partial sale of the controlled corporation that would not qualify for 
nonrecognition treatment under section 361.

B. Stakeholder Input

    Stakeholders have acknowledged the aforementioned potential for 
abuse and the potential treatment of such transactions as partial 
sales. However, stakeholders have contended that distributing 
corporations generally do not plan to replace historical debt satisfied 
in the section 355 transaction. Accordingly, stakeholders have 
suggested that any substantive guidance on this issue (i) should be 
narrowly tailored to address abusive structures that do not reflect the 
policies of section 361, and (ii) should take into account distributing 
corporations' need to borrow in the ordinary course of business and 
obtain funding for circumstances unrelated to the section 355 
transaction. Stakeholders also have suggested that the main difficulty 
in issuing guidance will be identifying clear anti-abuse principles 
that sufficiently differentiate between artificial post-distribution 
re-leveraging transactions (which should be disallowed) and genuine 
post-distribution re-leveraging transactions with a bona fide 
commercial purpose unrelated to the divisive transaction (which should 
be allowed).
    One stakeholder has recommended providing a safe harbor for 
transactions that do not raise debt replacement concerns, in order to 
increase certainty for taxpayers pursuing bona fide transactions. 
According to the stakeholder, the common factors in those transactions 
that should be included in such a safe harbor are: (i) a genuine non-
tax business purpose for the re-leveraging transaction; (ii) use of the 
re-leveraging proceeds in a manner consistent with such business 
purpose; and (iii) a non-tax economic effect of the re-leveraging 
transaction.
    The stakeholder has further recommended evaluating re-leveraging 
transactions that fall outside the aforementioned safe harbor based on 
all facts and circumstances. According to the stakeholder, factors that 
would support respecting the re-leveraging as a new borrowing for 
Federal income tax purposes include: (i) the existence of a non-tax 
business purpose supporting the re-leveraging transaction; (ii) the use 
of re-leveraging proceeds in a manner consistent with such business 
purpose; (iii) the absence of a plan to enter into the re-leveraging 
transaction at the time of the distribution; (iv) the passage of time 
between the distributing corporation's satisfaction of debt with 
section 361 consideration and the re-leveraging transaction; (v) the 
occurrence of the re-leveraging transaction in the ordinary course of 
business and/or the consistency of the transaction with historical 
practices; and (vi) evidence that, as a result of the de-leveraging 
transaction, the distributing corporation was appropriately leveraged 
from a capital markets perspective.
    In contrast, according to the stakeholder, the following factors 
would not support respecting the re-leveraging as a new borrowing. 
First, the lenders with regard to the re-leveraging transaction are the 
same as those with regard to the distributing corporation debt 
satisfied in the de-leveraging transaction. Second, the terms of the 
new distributing corporation debt are the same as (or substantially 
similar to) the terms of the distributing corporation debt satisfied in 
the de-leveraging transaction. Third, the proceeds of the re-leveraging 
transaction are retained (unless such retention is consistent with the 
business purpose for the re-leveraging). Finally, the de-leveraging 
transaction, when taken together with the re-leveraging transaction, 
has little or no economic effect.

C. Proposed Regulations

1. Overview
    The Treasury Department and the IRS appreciate the feedback 
provided by stakeholders regarding transitory borrowings. In developing 
these proposed regulations, the Treasury Department and the IRS have 
attempted to balance the compliance and increased certainty objectives 
with the understanding that distributing corporations should be able to 
borrow in the ordinary course of business and obtain financing for 
circumstances demonstrably unrelated to the divisive reorganization 
(that is, the transaction facilitation objective).
2. General Rule
    Proposed Sec.  1.361-5(f)(1) generally would reduce the amount of 
section 361 consideration that the distributing corporation is treated 
as transferring to a creditor in a qualifying debt elimination 
transaction by the amount of eligible distributing corporation debt 
that is ``transitorily eliminated.'' Proposed Sec.  1.361-5(f)(2)(i) 
would treat a distributing corporation as transitorily eliminating an 
amount of eligible distributing corporation debt equal to the amount of 
such debt that the distributing corporation or a distributing 
corporation related person replaces after the earliest applicable date, 
directly or indirectly, with borrowing that the distributing 
corporation or any

[[Page 5252]]

distributing corporation related person expects or is committed to, 
directly or indirectly, before that date. For this purpose, relatedness 
to the distributing corporation would be determined by examining all 
relevant relationships immediately after the earliest applicable date.
    The proposed regulations would set forth the earliest applicable 
date as the relevant date for examining the issuance of distributing 
debt that potentially could give rise to a transitory elimination of 
eligible distributing corporation debt. Principally, the Treasury 
Department and the IRS have selected the earliest applicable date as 
the relevant date for purposes of these proposed rules because that 
date also would serve generally under these proposed regulations as the 
bright line for determining whether distributing corporation debt 
qualifies as historical distributing corporation debt. Therefore, a 
proposed rule that focused on distributing corporation borrowings after 
that date, and which the distributing corporation expected or was 
committed to before that date, would connect logically to the proposed 
earliest applicable date for determining historical distributing 
corporation debt. Connecting such proposed rules to a single relevant 
date (that is, the earliest applicable date) is intended to help 
achieve the increased certainty objective of these proposed 
regulations, and consequently the compliance and transaction 
facilitation objectives as well.
3. Exceptions to General Transitory Debt Elimination Rule
    Based on feedback from stakeholders, proposed Sec.  1.361-
5(f)(2)(ii) and (iii) would provide exceptions to the general 
transitory debt elimination rule for ordinary course borrowings and 
borrowings resulting from unexpected events. With regard to each of 
these exceptions, the intent of the Treasury Department and the IRS is 
to provide safe harbors for borrowings that could not have had any 
connection to the distributing corporation's elimination of eligible 
distributing corporation debt because such borrowings would have 
occurred regardless of the occurrence of the divisive reorganization. 
In proposing these exceptions, the Treasury Department and the IRS are 
guided conceptually by existing regulations under section 355(e) 
(section 355(e) regulations) addressing non-plan factors for 
determining the existence of a plan. The intent of extending those 
principles to these proposed regulations is to increase certainty for 
taxpayers and the IRS by providing rules based on long-standing 
Treasury regulations.
a. Ordinary Course Borrowings
    The Treasury Department and the IRS have proposed an ordinary 
course borrowing exception in proposed Sec.  1.361-5(f)(2)(iii) to help 
achieve the increased certainty and transaction facilitation goals of 
these proposed regulations. Specifically, the Treasury Department and 
the IRS do not intend for the safeguards against transitorily 
eliminated distributing corporation debt to prevent the distributing 
corporation from engaging in its ordinary course business activities. 
Although the Treasury Department and the IRS agree with stakeholders 
that proposed rules on this issue would be challenging to provide in 
bright-line form, the purpose of these proposed rules is to reduce 
uncertainty by removing from consideration of the general rule those 
borrowings that the distributing corporation readily could identify as 
part of its ordinary course business operations.
    Consequently, the proposed regulations would provide that a 
replacement borrowing is not treated as transitorily eliminating 
eligible distributing corporation debt if the replacement borrowing (i) 
is incurred in the ordinary course of business of the distributing 
corporation or distributing corporation related person, and (ii) would 
have been incurred without regard to the divisive reorganization (or 
any transaction related to the divisive reorganization). See proposed 
Sec.  1.361-5(f)(2)(iii). The Treasury Department and the IRS based 
this proposed rule conceptually on Sec.  1.355-7(b)(4)(vi) (``In the 
case of an acquisition either before or after a distribution, the 
distribution would have occurred at approximately the same time and in 
similar form regardless of the acquisition or a similar 
acquisition.'').
b. Unexpected Borrowings
    In addition, proposed Sec.  1.361-5(f)(2)(ii) would provide that 
certain borrowings are not treated as expected (or otherwise committed) 
borrowings and, therefore, are not within the scope of the general rule 
of proposed Sec.  1.361-5(f)(2)(i) if two conditions are met. First, 
proposed Sec.  1.361-5(f)(2)(ii)(A) would require that a borrowing 
after the earliest applicable date must result from an event unrelated 
to the divisive reorganization and not in the ordinary course of 
business of the distributing corporation. Second, proposed Sec.  1.361-
5(f)(2)(ii)(B) would require that the borrowing must result from 
changed circumstances not expected prior to the control distribution 
date. The Treasury Department and the IRS are proposing this exception 
to provide increased certainty and facilitate bona fide transactions by 
reinforcing that a borrowing not in the ordinary course of business 
also should be excepted from application of the general rule, provided 
that the distributing corporation establishes that such borrowing 
results from an event that could not have been related to the divisive 
reorganization.
    In formulating the foregoing proposed rules, the Treasury 
Department and the IRS have relied on the same standard employed by the 
section 355(e) regulations for determining the existence of a plan. See 
Sec.  1.355-7(b)(4)(ii) (``In the case of an acquisition after a 
distribution, there was an identifiable, unexpected change in market or 
business conditions occurring after the distribution that resulted in 
the acquisition that was otherwise unexpected at the time of the 
distribution.'') and (iv) (``In the case of an acquisition before a 
distribution, there was an identifiable, unexpected change in market or 
business conditions occurring after the acquisition that resulted in a 
distribution that was otherwise unexpected.''). It is the intent of the 
Treasury Department and the IRS that exceptions based on the 
established section 355(e) regulations would facilitate bona fide 
transactions in the same manner that the section 355(e) regulations 
facilitate such transactions while addressing the challenging issue of 
determining the existence of a plan.

VIII. Application of Section 357 to Assumptions of Liabilities

A. Overview of Proposed Regulations

    The Treasury Department and IRS appreciate the feedback received 
from stakeholders addressing the interaction and separate operation of 
sections 357 and 361. From the perspective of the Treasury Department 
and the IRS, such feedback was insightful and has been helpful in the 
development these proposed regulations, particularly in achieving the 
three objectives discussed in section 2.01 of Notice 2024-38. 
Leveraging this feedback, the Treasury Department and IRS have 
attempted to balance the objectives of (i) facilitating compliance with 
sections 357 and 361, (ii) providing certainty to taxpayers and the 
IRS, and (iii) permitting bona-fide corporate readjustments with 
respect to the assumption of liabilities (including assuming refinanced 
distributing corporation debt) and the satisfaction of debt with 
section 361 consideration. In other words, in these proposed 
regulations, the Treasury Department

[[Page 5253]]

and IRS have attempted to provide taxpayers with an appropriate level 
of transactional flexibility that is consistent, and therefore 
compliant, with the operation of sections 357 and 361.

B. Liability Assumptions Under Section 357

1. General Rules
    Consistent with section 357(a), proposed Sec.  1.357-2(a) generally 
would provide that, if a transferor receives property that would be 
permitted to be received under section 351 or 361 without the 
recognition of gain to the transferor if that property were the sole 
consideration received by the transferor, and if, as part of the 
consideration, the transferee corporation assumes a liability of the 
transferor, then the transferee corporation's assumption of that 
liability (i) will not be treated as the receipt of money or other 
property by the transferor, and (ii) will not prevent the exchange from 
being within the provisions of section 351 or 361. Under proposed Sec.  
1.357-2(b), this general rule would not preclude any liability of a 
transferor that is assumed by a transferee corporation from being taken 
into account for purposes of computing the amount of gain or loss 
realized to the transferor under section 1001 resulting from the 
exchange.
2. Amount of Liability Assumed
    Proposed Sec.  1.357-2(c) would provide that, if the transferor 
issues a debt that converts, pursuant to its terms, into a debt of the 
transferee corporation (traveling note), the transferee corporation is 
treated as assuming that traveling note at the time at which the debtor 
on that debt converts from the transferor to the transferee corporation 
under the terms of the note. Proposed Sec.  1.357-2(d) also would 
provide general rules for determining the amount of recourse and 
nonrecourse liabilities assumed by a transferee corporation for 
purposes of Sec. Sec.  1.357-2, 1.357-3, 1.357-4, 1.358-3, 1.358-5, 
1.358-7, 1.361-3(c)(2), and 1.368-2(d).
    The Treasury Department and the IRS are considering additional 
rules regarding the amount of a liability a transferee corporation is 
treated as assuming in connection with a transfer of property and 
certain tax consequences that result from such an assumption. The 
Treasury Department and the IRS request comments regarding these issues 
and rules. See REG-100818-01, Liabilities Assumed in Certain 
Transactions, 68 FR 23931 (May 6, 2003).
a. Recourse Liabilities
    Proposed Sec.  1.357-2(d)(1)(i) would provide that a recourse 
liability (or portion thereof) of a transferor is treated as having 
been assumed by the transferee corporation if, as determined based on 
all facts and circumstances, the transferee corporation has agreed to, 
and is expected to, satisfy the liability (or portion thereof), whether 
or not the transferor has been relieved of the liability (or portion 
thereof).
b. Nonrecourse Liabilities
    Proposed Sec.  1.357-2(d)(1)(ii)(A) generally would provide that a 
nonrecourse liability of a transferor is treated as having been assumed 
by the transferee corporation to which any asset subject to that 
liability is transferred. However, proposed Sec.  1.357-2(d)(1)(ii)(B) 
would provide that the amount of any nonrecourse liability of a 
transferor treated as assumed is reduced by the lesser of (i) the 
amount of that liability that an owner of other assets not transferred 
to the transferee corporation and also subject to that liability has 
agreed with the transferee corporation to, and is expected to, satisfy, 
or (ii) the fair market value of such other assets (determined without 
regard to section 7701(g) of the Code).
3. Legal or Practical Dominion or Control Over Payment of Assumed 
Liability
a. General Rule
    Proposed Sec.  1.357-2(e)(1) would apply if a transferee 
corporation (or, in the case of a divisive reorganization, a member of 
the CSAG) makes a payment to satisfy an assumed liability, and if the 
transferor (or, in the case of a divisive reorganization, a member of 
the DSAG) has legal or practical dominion or control over any part of 
the payment. If proposed Sec.  1.357-2(e)(1) applies, then (i) that 
part of the payment is treated as money or other property received by 
the transferor, (ii) the rules in section 351(b) or 361(b) (as 
applicable) apply to determine the Federal income tax consequences of 
the receipt of that money or other property by the transferor, and 
(iii) the rules in proposed Sec. Sec.  1.357-2 through 1.357-4 (see the 
discussion in part VIII.C and D of this Explanation of Provisions) do 
not apply (that is, the Federal income tax consequences of the payment 
are not determined under section 357).
    Proposed Sec.  1.357-2(e)(2)(i) would provide that the 
determination of whether a payment is within the transferor's legal or 
practical dominion or control generally is made based on all facts and 
circumstances. However, proposed Sec.  1.357-2(e)(2)(ii) would treat a 
payment as within a transferor's legal or practical dominion or control 
if that payment is made to (i) a segregated account of the transferor 
(or, in the case of a divisive reorganization, a member of the DSAG), 
or (ii) any person through which the transferor (or, in the case of a 
divisive reorganization, a member of the DSAG) can direct the treatment 
or disposition of the payment, regardless of the brevity or transitory 
nature of the period in which the payment is in such an account.
b. Exceptions for Indemnification Agreements and Other Payments
    These proposed regulations also would except from the general 
facts-and-circumstances determination certain payments that otherwise 
would result in the transferor having legal or practical dominion or 
control over the payment. Under proposed Sec.  1.357-2(e)(2)(iii)(A), 
payments made pursuant to an indemnification agreement would not be 
treated as within the transferor's legal or practical dominion or 
control (and, thus, would not be treated as money or other property 
received by the transferor) if three requirements are satisfied. First, 
the transferee corporation must be legally prohibited from assuming the 
liability. Second, the indemnification agreement must require the 
transferor to first satisfy the obligation that is the subject of the 
indemnification before seeking payment from the transferee corporation. 
Third, the transferor must be in the same net economic position as it 
would have been had the transferee corporation legally assumed the 
liability.
    Under proposed Sec.  1.357-2(e)(2)(iii)(B), a payment not made 
pursuant to an indemnification agreement would not be treated as within 
the transferor's legal or practical dominion or control if (i) the 
payment is dedicated to the satisfaction of a liability of the 
transferor that is identified in an agreement or the plan of 
reorganization, (ii) the payment is made to an independent trustee or 
escrow agent that is not affiliated with the transferor, (iii) the 
payment is not made to any account of the transferor (or, in the case 
of a divisive reorganization, a member of the DSAG) or any person 
through which the transferor (or, in the case of a divisive 
reorganization, a member of the DSAG) could direct the payment, (iv) 
the transferor and transferee corporation treat any income, gain, or 
loss on the payment proceeds as income, gain, or loss of the transferee 
corporation, and (v) any excess of the payment account (and any income 
or gain thereon) over

[[Page 5254]]

the amount paid in satisfaction of the liability reverts to the 
transferee corporation.

C. Tax Avoidance Purpose Under Section 357(b)

1. Principal Purpose Standard
    These proposed regulations would revise and redesignate current 
Sec.  1.357-1(c) (concerning tax avoidance purpose) as proposed Sec.  
1.357-3(a) through (c). Consistent with section 357(b), proposed Sec.  
1.357-3(a)(1) would provide that Sec.  1.357-2(a) does not apply to any 
exchange involving the assumption of a liability if the principal 
purpose of the transferor with respect to the assumption is either (i) 
to avoid Federal income tax on the exchange, or (ii) not a bona fide 
business purpose. In accordance with caselaw and the long-standing view 
of the Treasury Department and the IRS, proposed Sec.  1.357-3(a)(2) 
also would clarify that a principal purpose described in proposed Sec.  
1.357-3(a)(1) is presumed to exist if the transferee corporation 
assumes a liability of the transferor that was not incurred in the 
ordinary course of a business of the transferor. See Bryan v. Comm'r, 
281 F.2d 238 (4th Cir. 1960); Rev. Proc. 96-30, 1996-1 C.B. 696, 
superseded by Rev. Proc. 2024-24 (continuing to require a similar 
representation); Rev. Proc. 83-59, 1983-2 C.B. 575.
    Consistent with section 357(b)(1) and current Sec.  1.357-1(c), 
proposed Sec.  1.357-3(b) would provide that, for purposes of 
determining the amount of gain recognized upon an exchange described in 
proposed Sec.  1.357-3(a)(1), the total amount of liabilities assumed 
or acquired pursuant to the exchange (and not merely a particular 
liability with respect to which the tax avoidance or non-business 
purpose existed) is treated as money or other property received by the 
transferor upon the exchange. Consistent with section 357(b)(2) and 
current Sec.  1.357-1(c), proposed Sec.  1.357-3(c) would provide that, 
if the Commissioner determines that the transferor's principal purpose 
with respect to the assumption of a liability was to avoid Federal 
income tax on the exchange or was not a bona fide business purpose, the 
burden is on the transferor to prove by a clear preponderance of the 
evidence that the liability assumption should not be treated as the 
receipt of money or other property.
2. Eligible Distributing Corporation Liabilities
    With respect to divisive reorganizations, the Treasury Department 
and the IRS view the allocation of distributing corporation liabilities 
as a fundamental aspect of separating one or more businesses. These 
proposed regulations are intended to facilitate the assumption of a 
distributing corporation's liabilities in bona-fide divisive 
reorganizations in a manner that balances the objectives of complying 
with section 357 while providing certainty to taxpayers and the IRS.
    Accordingly, as a threshold matter, proposed Sec.  1.357-3(d)(2) 
generally would permit solely eligible distributing corporation 
liabilities to be assumed. In other words, these proposed regulations 
would provide that a distributing corporation is presumed to have hade 
a principal purpose described in proposed Sec.  1.357-3(a)(1) (and, as 
a result, is presumed to be treated as recognizing an amount of gain 
determined under proposed Sec.  1.357-3(b)) if the controlled 
corporation assumes a distributing corporation liability that is not 
eligible to be assumed under proposed Sec.  1.357-(d)(3). Liabilities 
of a distributing corporation would be eligible to be assumed under 
proposed Sec.  1.357-3(d)(3) if (i) the liabilities are described in a 
plan of reorganization or original plan of reorganization (if amended), 
(ii) the liabilities were incurred in the ordinary course of business 
of the distributing corporation, and (iii) the assumption of the 
liabilities is necessary (A) to ensure the transfer to the controlled 
corporation of all liabilities properly associated with the business 
assets transferred to that corporation, and (B) to result in the 
controlled corporation assuming liabilities in an amount that properly 
relates to its business operations, the earnings of which will be used 
to properly satisfy those liabilities.
3. Eligible Distributing Corporation Debt
a. In General
    Proposed Sec.  1.357-3(d)(4) would provide additional requirements 
if the distributing corporation liabilities to be assumed are debt. The 
general rule in proposed Sec.  1.357-3(d)(4)(i) would provide that 
distributing corporation debt generally is eligible to be assumed if 
such debt qualifies as historical distributing corporation debt (as 
defined in proposed Sec.  1.357-1(b)(13)) (certain exceptions to the 
general rule are provided in proposed Sec.  1.357-3(d)(4)(ii)).
b. Exceptions to Requirement That Eligible Distributing Corporation 
Debt be Historical
    To facilitate the bona-fide allocation of distributing corporation 
debt in divisive reorganizations and to provide certainty to taxpayers 
and the IRS, proposed Sec.  1.357-3(d)(4)(ii) would provide several 
exceptions to the requirement that the distributing corporation debt 
must qualify as historical distributing corporation debt. First, 
proposed Sec.  1.357-3(d)(4)(ii)(A) would provide that any trade 
payables (as defined in proposed Sec.  1.357-1(b)(19)) of the 
distributing corporation that meet the requirements set forth in 
proposed Sec.  1.357-3(d)(3) (that is, the general requirements for 
distributing corporation liabilities eligible to be assumed) are not 
required to qualify as historical distributing corporation debt.
    Second, proposed Sec.  1.357-3(d)(4)(ii)(B) would provide that, if 
a controlled corporation assumes refinanced distributing corporation 
debt (as defined in proposed Sec.  1.357-1(b)(17)), that refinanced 
distributing corporation debt is treated as historical distributing 
corporation debt if all the following requirements are met: (i) the 
distributing corporation has a direct business purpose for the 
controlled corporation's assumption of the refinanced distributing 
corporation debt; (ii) the distributing corporation's refinancing of 
its historical distributing corporation debt is completed before the 
controlled corporation's assumption of that refinanced distributing 
corporation debt; (iii) following the controlled corporation's 
assumption of the refinanced distributing corporation debt, the 
distributing corporation and the controlled corporation are in the same 
net economic position as each corporation would have been had the 
controlled corporation assumed the historical distributing corporation 
debt; (iv) the distributing corporation's refinancing of its historical 
distributing corporation debt and the subsequent assumption of that 
refinanced debt are included in the plan of reorganization for the 
divisive reorganization; (v) there is no untaxed gain or other Federal 
income tax benefit to the distributing corporation or the controlled 
corporation resulting from the distributing corporation's refinancing 
of a historical distributing corporation debt and the assumption by the 
controlled corporation of that refinanced distributing corporation 
debt; (vi) the business assets transferred by the distributing 
corporation to the controlled corporation in the section 361(a) 
exchange are associated with the

[[Page 5255]]

refinanced distributing corporation debt assumed by the controlled 
corporation; and (vii) the refinancing of historical distributing 
corporation debt by the distributing corporation and the subsequent 
assumption of that refinanced distributing corporation debt by the 
controlled corporation result in the controlled corporation assuming 
liabilities in an amount that properly relates to its business 
operations and will be properly satisfied with earnings generated by 
those operations. The foregoing requirements are derived directly from 
Rev. Rul. 79-258, which provides long-standing IRS guidance on the 
treatment of an assumption of a refinanced historical distributing 
corporation debt.
    Third, proposed Sec.  1.357-3(d)(4)(ii)(C) would provide that a 
controlled corporation's assumption of a traveling note issued to 
refinance a historical distributing corporation debt is treated as an 
assumption of historical distributing corporation debt if the 
requirements with respect to refinanced distributing corporation debt 
described in the foregoing paragraph are met. Because the issuance of a 
traveling note resembles the issuance and assumption of refinanced 
debt, the Treasury Department and IRS are of the view that traveling 
notes should be subject to the same degree of scrutiny as the issuance 
and assumption of refinanced debt.
    Fourth, proposed Sec.  1.357-3(d)(4)(ii)(D) would provide that a 
revolving credit agreement to which the distributing corporation is a 
debtor qualifies as historical distributing corporation debt only if 
the distributing corporation entered into the agreement before the 
earliest applicable date, the agreement does not expire until after the 
date of the exchange described in proposed Sec.  1.361-2(a) or 1.361-
3(a), and that agreement is identified in the plan of reorganization or 
original plan of reorganization (if amended).

D. Liabilities in Excess of Basis Under Section 357(c)

    Consistent with section 357(c) and current Sec.  1.357-2(a), 
proposed Sec.  1.357-4(a)(1) generally would provide that, in an 
exchange described in section 351 or in section 361 (by reason of a 
divisive reorganization that qualifies under sections 355 and 
368(a)(1)(D)), the excess of (i) the sum of the amount of liabilities 
of the transferor assumed by the transferee corporation, over (ii) the 
total adjusted basis of the property transferred by the transferor 
pursuant tothe exchange, is treated as gain from the sale or exchange 
of a capital asset or of property that is not a capital asset, as 
applicable. The determination of whether gain resulting from the 
transfer of capital assets is long-term or short-term capital gain 
would be made under proposed Sec.  1.357-4(b) by reference to the 
transferor's holding period for the transferred assets, based on the 
proportionate fair market value of the transferor's long-term assets to 
its short-term assets.
    Under proposed Sec.  1.357-4(a)(2), the general rule in proposed 
Sec.  1.357-4(a)(1) would not apply to any exchange (i) to which 
proposed Sec.  1.357-3(a) applies, (ii) that is pursuant to a plan of 
reorganization for a reorganization described in section 368(a)(1)(G) 
in which no former shareholder of the transferor corporation receives 
any consideration for the shareholder's stock, or (iii) to which 
section 351 applies if that exchange also (A) qualifies as part of a 
reorganization described in section 368(a)(1)(A), (C), or (D) or (G) 
(provided the requirements of section 354(b)(1) of the Code are 
satisfied), and (B) is described as a reorganization in a filing with 
the IRS under Sec.  1.368-3.
    In addition, the following liabilities generally would be excluded 
under proposed Sec.  1.357-4(a)(3)(i) for purposes of applying the 
general rule in proposed Sec.  1.357-4(a)(1): (i) a liability the 
payment of which would give rise to a deduction; (ii) a liability the 
payment of which would give rise to the creation of, or increase in, 
the basis of any property; and (iii) a liability the payment of which 
would be described in section 736(a) of the Code. However, such 
liabilities would not be excluded under proposed Sec.  1.357-4(a)(3)(i) 
to the extent (i) the incurrence of the liability resulted in a 
deduction, (ii) the incurrence of the liability resulted in the 
creation of, or an increase in, the basis of any property, or (iii) the 
liability is not incurred in the ordinary course of business or 
associated with any assets transferred.

IX. Solvency and Continued Viability of Distributing Corporation and 
Controlled Corporation

A. Notice 2024-38

    Section 2.02(3) of Notice 2024-38 stated the view of the Treasury 
Department and the IRS that qualification under section 355 is limited 
to transactions after which the distributing corporation and the 
controlled corporation are capable of carrying on sustained businesses. 
In this regard, section 355 and related Code provisions were not 
enacted to provide nonrecognition treatment for section 355 
transactions that burden the distributing corporation or the controlled 
corporation with excessive leverage, thereby jeopardizing their ability 
to continue as a viable going concern. See, for example, S. Rep. No. 
82-781, at 58 (1951) (providing, in relevant part, that the predecessor 
statute to section 355 was drafted ``so as to limit its benefits to 
reorganizations in which all of the new corporations as well as the 
parent are intended to carry on a business after the reorganization'').

B. Stakeholder Input

    Stakeholders have contended that substantive guidance under section 
355, 357, or 361 is not appropriate to address the foregoing solvency 
concern and that additional rules to address this concern are 
unnecessary. First, stakeholders have asserted that section 355 already 
provides safeguards to prevent an abusive transaction (such as a 
transaction involving the allocation of excess liabilities to the 
controlled corporation) from qualifying under sections 355 and 361. 
Those safeguards include the active trade or business requirement (see 
section 355(b)), the corporate business purpose requirement (see Sec.  
1.355-2(b)), and the device prohibition (see section 355(a)(1)(B) and 
Sec.  1.355-2(d)). Second, stakeholders have noted that, if a 
taxpayer's principal purpose with respect to a liability assumption is 
to avoid Federal income tax on the exchange or is not a bona fide 
business purpose, the total amount of liabilities assumed is treated as 
money received by the taxpayer in the exchange (that is, as taxable 
boot). See section 357(b)(1). Third, stakeholders have contended that, 
if the controlled corporation is not expected to have the capacity to 
repay the assumed debt, that debt would not be respected as debt for 
Federal income tax purposes (and would be recharacterized as non-voting 
equity). Finally, stakeholders have contended that non-tax safeguards, 
including commercial constraints on capital allocation and structuring, 
State law restrictions (such as voidable transfers or fraudulent 
transfers), bankruptcy law, and third-party evaluations (including 
credit agency ratings), operate as limitations on the assumption of 
excessive liabilities by the controlled corporation and, thus, obviate 
the need for a solvency requirement under section 355.

C. Proposed Regulations

    The Treasury Department and the IRS disagree that the foregoing 
safeguards obviate the need for additional guidance to address the 
solvency concern. As acknowledged by stakeholders, some distributing 
corporations facing substantial contingent liabilities have separated 
those liabilities from the

[[Page 5256]]

corporations' primary assets through divisive reorganizations. In 
numerous instances, the controlled corporation has been unable to 
support those liabilities through operation of the transferred business 
and consequently became financially unviable, notwithstanding the 
safeguards mentioned by stakeholders. Such separations have been 
successfully challenged as fraudulent transfers. See, for example, In 
re Tronox Inc., 503 B.R. 239 (Bankr. S.D.N.Y. 2013).
    The Treasury Department and the IRS view the aforementioned 
transactions and resulting outcomes as inconsistent with Congress's 
intent that section 355 ``limit its benefits to reorganizations in 
which all of the new corporations as well as the parent are intended to 
carry on a business after the reorganization.'' S. Rep. No. 82-781, at 
58 (1951). For example, the Treasury Department and the IRS are of the 
view that so-called ``spin-to-bankruptcy'' transactions, in certain 
situations, would fail to evidence an intent for the continued conduct 
of the business following the divisive reorganization.
    Accordingly, the Treasury Department and the IRS intend to address 
these issues in forthcoming guidance concerning the active trade or 
business requirement under section 355(b). It is the position of the 
Treasury Department and the IRS that, while such guidance is pending, 
solvency and financial viability considerations continue to be relevant 
for purposes of the IRS's private letter ruling program, as reflected 
in Rev. Proc. 2024-24. The Treasury Department and the IRS request 
additional comments on this issue, taking into account the views 
described in this part IX.C.

Proposed Applicability Dates

    Each provision of the regulations contained in this notice of 
proposed rulemaking is proposed to apply to transactions occurring 
after the date of publication of final regulations in the Federal 
Register (publication date), but only if the earliest of the following 
dates with respect to the transaction occurs after the publication date 
(general applicability date): (1) the date of the first public 
announcement; (2) the date of entry by the taxpayer into a written 
agreement; (3) the date of approval by the board of directors of the 
taxpayer; (4) the date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case, only if 
the taxpayer was a debtor in a case before such court; or (5) the date 
a ruling request is submitted to the IRS.
    Proposed Sec. Sec.  1.355-2(e), 1.355-4, and 1.355-10 would be 
applicable to section 355 transactions occurring after the general 
applicability date. Proposed Sec. Sec.  1.357-1 through 1.357-4 would 
be applicable to assumptions of liabilities in transactions intended to 
qualify under section 351 or section 361 occurring after the general 
applicability date. Proposed Sec. Sec.  1.361-1 through 1.361-5 would 
be applicable to exchanges under section 361 occurring after the 
general applicability date. Proposed Sec. Sec.  1.368-1(c), 1.368-2(f), 
1.368-3(a)(5), and 1.368-4 would be applicable to transactions 
occurring after the general applicability date.

Effect on Other Documents

    The following revenue rulings are proposed to be obsoleted for 
transactions occurring after the date of publication of final 
regulations in the Federal Register: Rev. Rul. 2007-8, 2007-1 C.B. 469; 
Rev. Rul. 95-74, 1995-2 C.B. 36; Rev. Rul. 79-258, 1979-2 C.B. 143; 
Rev. Rul. 75-469, 1975-2 C.B. 126; Rev. Rul. 75-321, 1975-2 C.B. 123; 
Rev. Rul. 57-518, 1957-2 C.B. 253.

Special Analyses

I. Regulatory Planning and Review

    Pursuant to the Memorandum of Agreement, Review of Treasury 
Regulations under Executive Order 12866 (June 9, 2023), tax regulatory 
actions issued by the IRS are not subject to the requirements of 
section 6 of Executive Order 12866, as amended. Therefore, a regulatory 
impact assessment is not required.

II. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (44 U.S.C. 3501-3520) (PRA) 
generally requires that a Federal agency obtain the approval of the 
Office of Management and Budget (OMB) before collecting information 
from the public, whether such collection of information is mandatory, 
voluntary, or required to obtain or retain a benefit. An agency may not 
conduct or sponsor, and a person is not required to respond to, a 
collection of information unless the collection of information displays 
a valid control number.
    The general recordkeeping requirements mentioned within these 
proposed regulations are considered general tax records under Sec.  
1.6001-1(e). In connection with a reorganization, these records should 
include information regarding the amount, basis, and fair market value 
of all transferred property, and relevant facts regarding any 
liabilities assumed or extinguished as part of such reorganization. For 
PRA purposes, these general tax records are already approved under OMB 
control number 1545-0123.
    The reporting requirements set forth in proposed Sec. Sec.  1.355-
5(a)(2) and 1.368-3(a)(5) require parties to a section 355(c) 
distribution or a corporate reorganization to attach a statement to 
their return that includes a copy of the plan of distribution or the 
plan of reorganization satisfying the requirements set forth in 
proposed Sec. Sec.  1.355-4 or 1.368-4, respectively. The burden for 
these requirements will be approved by OMB, in accordance with 5 CFR 
1320.10, under OMB control number 1545-0123 for business entities.

III. Regulatory Flexibility Act

    Pursuant to the Regulatory Flexibility Act (5 U.S.C. chapter 6), it 
is hereby certified that these proposed regulations would not have a 
significant economic impact on a substantial number of small entities. 
This certification is based on the fact that the situations to which 
these proposed regulations would apply are primarily section 355 
transactions and acquisitive reorganizations. Such transactions 
primarily are engaged in by publicly traded corporations, which tend to 
be larger businesses. Specifically, the Research, Applied Analytics, 
and Statistics Division of the IRS estimates that, based on the most 
recent complete data available, fewer than one percent of small 
businesses with gross receipts under $25 million would be subject to 
the requirements of these regulations annually. To the extent that 
transactions qualifying under section 351 or 368(a)(1) also are 
included, the percentage of small businesses impacted remains fewer 
than one percent of small businesses with gross receipts under $25 
million. In addition, the reporting burden in these proposed 
regulations is an incremental, additional obligation on small entities 
to a currently existing collection of information. Moreover, the 
economic impact of these proposed regulations will not be significant.
    Therefore, these proposed regulations would not create significant 
additional obligations for, or impose any meaningful economic impact 
on, a substantial number of small entities. Accordingly, the Secretary 
certifies that the proposed regulations would not have a significant 
economic impact on a substantial number of small entities and a 
regulatory flexibility analysis under the Regulatory Flexibility Act is 
not required.

IV. Section 7805(f)

    Pursuant to section 7805(f) of the Code, the proposed regulations 
have been submitted to the Chief Counsel for the Office of Advocacy of 
the Small

[[Page 5257]]

Business Administration for comment on its impact on small business.

V. Unfunded Mandates Reform Act

    Section 202 of the Unfunded Mandates Reform Act of 1995 (UMRA) 
requires that agencies assess anticipated costs and benefits and take 
certain other actions before issuing a final rule that includes any 
Federal mandate that may result in expenditures in any one year by a 
State, local, or Tribal government, in the aggregate, or by the private 
sector, of $100 million in 1995 dollars, updated annually for 
inflation.
    These proposed regulations do not include any Federal mandate that 
may result in expenditures by State, local, or Tribal governments, or 
by the private sector, in excess of that threshold.

VI. Executive Order 13132: Federalism

    Executive Order 13132 (Federalism) prohibits an agency from 
publishing any rule that has federalism implications if the rule either 
imposes substantial, direct compliance costs on State and local 
governments, and is not required by statute, or preempts State law, 
unless the agency meets the consultation and funding requirements of 
section 6 of the Executive order. This proposed rule does not have 
federalism implications and does not impose substantial direct 
compliance costs on State and local governments or preempt State law 
within the meaning of the Executive order.

Comments and Public Hearing

    Before these proposed regulations are adopted as final regulations, 
consideration will be given to any comments that are submitted timely 
to the IRS as prescribed in the preamble under the ADDRESSES heading. 
The Treasury Department and the IRS request comments on all aspects of 
the proposed regulations. All commenters are strongly encouraged to 
submit comments electronically. The Treasury Department and the IRS 
will publish for public availability any comment submitted 
electronically or on paper to its public docket on https://www.regulations.gov.
    A public hearing will be scheduled if requested in writing by any 
person who timely submits electronic or written comments. Requests for 
a public hearing also are encouraged to be made electronically. If a 
public hearing is scheduled, notice of the date and time for the public 
hearing will be published in the Federal Register.

Statement of Availability of IRS Documents

    Guidance cited in this preamble is published in the Internal 
Revenue Bulletin and is available from the Superintendent of Documents, 
U.S. Government Publishing Office, Washington, DC 20402, or by visiting 
the IRS website at https://www.irs.gov.

Drafting Information

    The principal author of these proposed regulations is Justin R. Du 
Mouchel of the Office of Associate Chief Counsel (Corporate). However, 
other personnel from the Treasury Department and the IRS participated 
in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Proposed Amendments to the Regulations

    Accordingly, the Treasury Department and the IRS propose to amend 
26 CFR part 1 as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 is amended by adding 
entries in numerical order for Sec. Sec.  1.355-2(e), 1.355-4, 1.355-5, 
1.355-10, 1.361-1 through 1.361-5, and 1.368-1 through 1.368-4, and 
removing the entry for Sec.  1.355-2T(g) and (i) to read in part as 
follows:

    Authority:  26 U.S.C. 7805 * * *

* * * * *
    Section 1.355-2(e) also issued under 26 U.S.C. 337(d).
* * * * *
    Section 1.355-4 also issued under 26 U.S.C. 337(d).
    Section 1.355-5 also issued under 26 U.S.C. 337(d).
* * * * *
    Section 1.355-10 also issued under 26 U.S.C. 337(d).
* * * * *
    Section 1.361-1 also issued under 26 U.S.C. 337(d).
    Section 1.361-2 also issued under 26 U.S.C. 337(d).
    Section 1.361-3 also issued under 26 U.S.C. 337(d) and 
361(b)(3).
    Section 1.361-4 also issued under 26 U.S.C. 337(d) and 
361(b)(3).
    Section 1.361-5 also issued under 26 U.S.C. 337(d) and 
361(b)(3).
* * * * *
    Section 1.368-1 also issued under 26 U.S.C. 337(d).
    Section 1.368-2 also issued under 26 U.S.C. 337(d).
    Section 1.368-3 also issued under 26 U.S.C. 337(d).
    Section 1.368-4 also issued under 26 U.S.C. 337(d).
* * * * *

0
Par. 2. Section 1.355-1 is revised and republished to read as follows:


Sec.  1.355-1  Distribution of stock and securities of a controlled 
corporation.

    (a) Application of section 355--(1) Overview--(i) In general. 
Section 355 of the Code provides for the separation, without 
recognition of gain or loss to (or the inclusion in income of) the 
shareholders and security holders, of one or more existing businesses 
formerly operated, directly or indirectly, by a single distributing 
corporation. Section 355 applies only to the separation of existing 
businesses that have been in active operation for at least five years 
(or to the division of a business that has been in active operation for 
at least five years into separate businesses), and that, in general, 
have been owned, directly or indirectly, for at least five years by the 
distributing corporation. A separation is achieved through the 
distribution by the distributing corporation of stock, or of stock and 
securities, of one or more controlled corporations (which may be pre-
existing or newly created subsidiaries) to the distributing 
corporation's shareholders with respect to its stock or to its security 
holders in exchange for its securities. Section 355 contemplates the 
continued operation of the business or businesses existing prior to the 
separation.
    (ii) Scope. Paragraph (a)(2) of this section provides general 
definitions that apply for purposes of the section 355 regulations. 
Paragraph (b) of this section describes types of distributions that may 
qualify under section 355, including pro rata distributions and non pro 
rata distributions. Paragraphs (c) and (d) of this section provide 
rules regarding stock rights and nonqualified preferred stock, 
respectively. Paragraph (e) of this section provides applicability 
dates for certain sections of the section 355 regulations.
    (2) Definitions. Except as otherwise provided in the section 355 
regulations, the following definitions apply for purposes of the 
section 355 regulations:
    (i) Code. The term Code means the Internal Revenue Code of 1986, as 
amended.
    (ii) Commissioner. The term Commissioner means the Commissioner of 
Internal Revenue.
    (iii) Control distribution. The term control distribution means a 
distribution of controlled corporation stock, or of controlled 
corporation stock and securities, that results in the distribution by 
the distributing

[[Page 5258]]

corporation of an amount of controlled corporation stock constituting 
control (within the meaning of section 368(c) of the Code).
    (iv) Control distribution date. The term control distribution date 
means the date of the control distribution.
    (v) Controlled corporation. The term controlled corporation means 
the controlled corporation described in section 355(a)(1)(A).
    (vi) Distributing corporation. The term distributing corporation 
means the distributing corporation described in section 355(a)(1)(A).
    (vii) Distribution. Unless the context indicates otherwise, the 
term distribution means--
    (A) With regard to a section 355(c) distribution, a single 
distribution or series of distributions of controlled corporation stock 
and securities (if any) carried out pursuant to a plan of distribution 
to qualify the distribution or series of distributions under section 
355; or
    (B) With regard to a divisive reorganization, a single distribution 
or series of distributions of controlled corporation stock and 
securities (if any) carried out pursuant to a plan of reorganization to 
qualify the distribution or series of distributions under section 355.
    (viii) Divisive reorganization. The term divisive reorganization 
means a series of transactions carried out pursuant to a plan of 
reorganization that qualify as a reorganization described in sections 
355 and 368(a)(1)(D) or (G).
    (ix) Final distribution. The term final distribution means, with 
respect to a series of distributions, the last distribution that is 
made by the distributing corporation pursuant to the plan of 
distribution or plan of reorganization (as appropriate).
    (x) First distribution. The term first distribution means, with 
respect to a series of distributions, the earliest distribution that is 
made by the distributing corporation pursuant to the plan of 
distribution or plan of reorganization (as appropriate).
    (xi) First distribution date. The term first distribution date 
means the date of the first distribution.
    (xii) IRS. The term IRS means the Internal Revenue Service.
    (xiii) Plan of distribution. The term plan of distribution has the 
meaning provided in Sec.  1.355-4.
    (xiv) Plan of reorganization. The term plan of reorganization has 
the meaning provided in Sec.  1.368-4.
    (xv) SEC. The term SEC means the U.S. Securities and Exchange 
Commission.
    (xvi) Section 355 regulations. The term section 355 regulations 
means this section and Sec. Sec.  1.355-2 through 1.355-10.
    (xvii) Section 355 transaction. The term section 355 transaction 
means either a section 355(c) distribution or a divisive 
reorganization.
    (xviii) Section 355(c) distribution. The term section 355(c) 
distribution means a distribution that qualifies under section 355(a) 
(or so much of section 356 of the Code as relates to section 355) and 
section 355(c).
    (b) Non pro rata distributions--(1) In general. Section 355 
provides for nonrecognition of gain or loss with respect to a 
distribution whether or not--
    (i) The distribution is pro rata with respect to all shareholders 
of the distributing corporation;
    (ii) The distribution is pursuant to a plan of reorganization 
within the meaning of section 368(a)(1)(D); or
    (iii) The shareholders surrender stock in the distributing 
corporation.
    (2) Controlled corporation stock. Under section 355, the stock of a 
controlled corporation may consist of common stock or preferred stock. 
(See, however, section 306 of the Code and the regulations under 
section 306.)
    (3) Section 355 not applicable to mere exchanges of stock or 
securities. Section 355 does not apply if the substance of a 
transaction is merely an exchange between shareholders or security 
holders of stock or securities in one corporation for stock or 
securities in another corporation. For example, if two individuals, A 
and B, each own directly 50 percent of the stock of corporation X and 
50 percent of the stock of corporation Y, section 355 would not apply 
to a transaction in which A and B transfer all of their stock of X and 
Y to a new corporation Z for all of the stock of Z, and Z then 
distributes the stock of X to A and the stock of Y to B.
    (c) Stock rights. Except as provided in Sec.  1.356-6, for purposes 
of section 355, the term securities includes rights issued by the 
distributing corporation or the controlled corporation to acquire the 
stock of that corporation. For purposes of this section and section 
356(d)(2)(B), a right to acquire stock has no principal amount. For 
this purpose, the term rights to acquire stock has the same meaning as 
it does under sections 305 and 317(a) of the Code. Other Code 
provisions governing the treatment of rights to acquire stock also may 
apply to certain distributions occurring in connection with a 
transaction described in section 355. See, for example, sections 83 and 
421 through 424 of the Code and the regulations under sections 83 and 
421 through 424.
    (d) Nonqualified preferred stock. See Sec.  1.356-7(a) and (b) for 
the treatment of nonqualified preferred stock (as defined in section 
351(g)(2) of the Code) received in certain exchanges for (or in certain 
distributions with respect to) nonqualified preferred stock or 
preferred stock. See Sec.  1.356-7(c) for the treatment of the receipt 
of preferred stock in certain exchanges for (or in certain 
distributions with respect to) common or preferred stock described in 
section 351(g)(2)(C)(i)(II).
    (e) Applicability dates--(1) Section 1.355-1--(i) In general. This 
section applies to section 355 transactions for which the earliest of 
the following dates occurs after [DATE OF PUBLICATION OF FINAL 
REGULATIONS IN THE FEDERAL REGISTER] (general applicability date):
    (A) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the section 355 transaction.
    (B) The date of entry by the distributing corporation into a 
written agreement to engage in the section 355 transaction.
    (C) The date of approval of the section 355 transaction by the 
board of directors of the distributing corporation.
    (D) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A)), but only if the taxpayer was a debtor 
in a case before such court.
    (E) The date a ruling request for the section 355 transaction is 
submitted to the IRS.
    (ii) Transactions occurring on or before general applicability 
date. For section 355 transactions occurring on or before the general 
applicability date, see 26 CFR 1.355-1 and 1.355-4 (revised as of April 
1, 2024).
    (2) Sections 1.355-2 and 1.355-3--(i) In general. Except as 
otherwise provided in this paragraph (e)(2), Sec. Sec.  1.355-2 and 
1.355-3 apply to section 355 transactions occurring after February 6, 
1989. For section 355 transactions occurring on or before that date, 
see 26 CFR 1.355-2 and 1.355-3 (revised as of April 1, 1988).
    (ii) Section 1.355-2(e). Section 1.355-2(e) applies to section 355 
transactions for which the earliest of the dates listed in paragraphs 
(e)(1)(i)(A) through (E) of this section occurs after [DATE OF 
PUBLICATION OF FINAL REGULATIONS IN THE FEDERAL REGISTER].
    (iii) Section 1.355-2(g). Sections 1.355-2(g) applies to section 
355 transactions occurring after October 20, 2011. For rules regarding 
section 355

[[Page 5259]]

transactions occurring on or before October 20, 2011, see Sec.  1.355-
2T(i), as contained in 26 CFR part 1, revised as of April 1, 2011.
    (3) Section 1.355-4. Section 1.355-4 applies to section 355 
transactions for which the earliest of the dates listed in paragraphs 
(e)(1)(i)(A) through (E) of this section occurs after [DATE OF 
PUBLICATION OF FINAL REGULATIONS IN THE FEDERAL REGISTER].
    (4) [Reserved]
    (5) Section 1.355-10. Section 1.355-10 applies to section 355 
transactions for which the earliest of the dates listed in paragraphs 
(e)(1)(i)(A) through (E) of this section occurs after [DATE OF 
PUBLICATION OF FINAL REGULATIONS IN THE FEDERAL REGISTER].
0
Par. 3. Section 1.355-2 is amended by:
0
1. Revising paragraph (e); and
0
2. Removing paragraph (i).
    The revision reads as follows:


Sec.  1.355-2  Limitations.

* * * * *
    (e) Stock and securities distributed--(1) Overview. To qualify 
under section 355, a distributing corporation, as part of the 
distribution (within the meaning of section 355(a)(1)(D)), must 
distribute stock, or stock and securities, of the controlled 
corporation.
    (2) Requirements. A distribution does not qualify under section 355 
unless, pursuant to a plan of distribution (as described in Sec.  
1.355-4) or a plan of reorganization (within the meaning of Sec.  
1.368-4), the distributing corporation satisfies the requirements set 
forth in either paragraph (e)(2)(i) or (ii) of this section in addition 
to satisfying the requirements set forth in paragraph (e)(2)(iii) of 
this section.
    (i) The distributing corporation distributes at least an amount of 
stock of the controlled corporation that constitutes a control 
distribution within a single taxable year of the distributing 
corporation.
    (ii) The distributing corporation distributes stock of the 
controlled corporation as part of a control distribution during two 
taxable years of the distributing corporation, but only if all 
distributions up to and including the control distribution are made 
pursuant to a binding commitment that is described in, as appropriate--
    (A) The plan of distribution; or
    (B) The plan of reorganization.
    (iii) Any stock of the controlled corporation not distributed as 
part of the first distribution satisfies all requirements for a 
qualifying retention (as described in Sec.  1.355-10(c)).
* * * * *
0
Par. 4. Section 1.355-4 is revised to read as follows:


Sec.  1.355-4  Plan of distribution.

    (a) Plan of distribution--(1) Scope and purpose. This section sets 
forth requirements and procedures for the determination of a plan of 
distribution, including the scope of distributions properly included 
within that plan. This section applies solely to a section 355(c) 
distribution. Accordingly, this section does not apply to a 
reorganization described in section 368(a)(1)(D) or (G) of the Code.
    (2) Definition. For purposes of section 355 of the Code and the 
section 355 regulations, the term plan of distribution means--
    (i) A plan of distribution of the distributing corporation that--
    (A) Satisfies all requirements set forth in paragraph (c) of this 
section; and
    (B) Is filed with the IRS pursuant to Sec.  1.355-5(a)(2);
    (ii) A plan of distribution of the distributing corporation that 
results from the Commissioner correcting a plan of distribution of a 
distributing corporation; or
    (iii) A plan of distribution of the distributing corporation that 
results from the Commissioner identifying a plan of distribution for a 
distributing corporation (in the event of a failure to file a plan of 
distribution with the IRS pursuant to Sec.  1.355-5(a)(2)).
    (3) Failure to satisfy requirements. The failure of a distributing 
corporation to comply with any particular requirement or procedure set 
forth in this section (including the failure to file a plan of 
distribution with the IRS pursuant to Sec.  1.355-5(a)(2)) does not, on 
its own, prevent a transaction or series of transactions from being 
considered part of the plan of distribution.
    (b) Determination of plan of distribution--(1) Status generally 
based on plan of distribution filed by distributing corporation. Except 
as provided in paragraph (b)(2) of this section, a distributing 
corporation establishes the plan of distribution for a transaction or 
series of transactions solely by--
    (i) Satisfying all requirements set forth in paragraph (c) of this 
section; and
    (ii) Filing the plan of distribution with the IRS pursuant to Sec.  
1.355-5(a)(2).
    (2) Correction or identification of plan of distribution due to 
distributing corporation's failure to file a complete plan of 
distribution--(i) In general. If a distributing corporation files a 
plan of distribution with the IRS that fails to satisfy any requirement 
set forth in paragraph (c) of this section, or if the distributing 
corporation fails to file any plan of distribution with the IRS, the 
Commissioner may correct or identify a plan of distribution in 
accordance with paragraph (b)(2)(ii) of this section.
    (ii) Status of distributions as part of a plan of distribution. The 
Commissioner may determine that a distribution or series of 
distributions should be included in, or excluded from, a plan of 
distribution described in paragraph (b)(2)(i) of this section based 
on--
    (A) All facts and circumstances regarding the distribution or 
series of distributions; and
    (B) All relevant provisions of the Code and general principles of 
Federal income tax law, including the step transaction doctrine.
    (c) Requirements for a plan of distribution. To qualify as a plan 
of distribution described in paragraph (a)(2)(i) of this section, the 
distributing corporation must satisfy all requirements set forth in 
paragraphs (c)(1) through (3) of this section. For purposes of this 
paragraph (c) and paragraph (d) of this section, the term official 
records includes a contract or other agreement to which the 
distributing corporation is a party, a resolution or other document 
authorized by the distributing corporation's board of directors, or 
other document filed with the SEC or other Federal regulatory agency.
    (1) Documentation requirement. The plan of distribution is provided 
in a single, comprehensive document that--
    (i) Identifies the distributing corporation and each controlled 
corporation;
    (ii) Identifies all distributions properly included in the plan of 
distribution (as determined pursuant to paragraph (d) of this section);
    (iii) Describes the intended Federal income tax treatment of the 
distributions described in paragraph (c)(1)(ii) of this section; and
    (iv) Describes the corporate business purpose for each 
distribution.
    (2) Adoption of plan of distribution. Prior to the first 
distribution, the plan of distribution described in paragraph (a)(2)(i) 
of this section or an original plan of distribution that becomes the 
amended plan of distribution (within the meaning of paragraph (e) of 
this section), as applicable, is finalized and adopted by the 
distributing corporation, as established by--
    (i) The acts of the distributing corporation's duly authorized 
officers and directors; and

[[Page 5260]]

    (ii) The distributing corporation's official records.
    (3) Completion of plan of distribution--(i) Expeditious prosecution 
of plan of distribution--(A) General rule. In accordance with paragraph 
(c)(3)(ii) of this section, taking into account all facts and 
circumstances (including the one or more corporate business purposes 
for each distribution), the distributing corporation completes the plan 
of distribution as expeditiously as practicable.
    (B) 24-month presumption. The requirement in paragraph (c)(3)(i)(A) 
of this section is presumed to be satisfied if, in accordance with 
paragraph (c)(3)(ii) of this section, the distributing corporation 
completes the plan of distribution within the 24-month period beginning 
on the first distribution date.
    (ii) Completion of entire plan of distribution--(A) General rule. 
All distributions included in a plan of distribution must be carried 
out in the manner described in the plan of distribution.
    (B) Failure to complete entire plan of distribution. Except as 
provided in paragraph (e) of this section, if the requirement of 
paragraph (c)(3)(ii)(A) of this section is not satisfied, section 355 
does not apply to any distribution unless the Commissioner determines 
the existence of a plan of distribution.
    (d) Requirements for distributions to be treated as properly 
included in plan of distribution. The requirements set forth in this 
paragraph (d) must be satisfied for a distribution to be treated as 
properly included in a plan of distribution. The existence of 
contingencies or conditions is not conclusive in determining whether a 
requirement of this paragraph (d) is satisfied.
    (1) Definite intent requirement--(i) General rule. Prior to the 
first step of the plan of distribution or of an original plan of 
distribution that becomes the amended plan of distribution (within the 
meaning of paragraph (e) of this section), the distributing corporation 
evidences a definite intent to carry out the distribution through a 
written commitment in one or more official records of the distributing 
corporation that substantiate the plan of distribution.
    (ii) Section 355 transactions. With regard to a control 
distribution that occurs in the next taxable year after the first 
distribution, the distributing corporation does not establish a 
definite intent under paragraph (d)(1)(i) of this section unless all 
distributions up to and including the control distribution are 
effectuated pursuant to a binding commitment of the distributing 
corporation. See Sec.  1.355-2(e)(2)(ii).
    (iii) Relevancy of contemplated possibilities--(A) Contemplation 
irrelevant to distributing corporation's determination. The 
contemplation by the distributing corporation that it may carry out a 
distribution is not sufficient for the distributing corporation to 
establish a definite intent to carry out that distribution, regardless 
of whether that contemplated distribution is included in an official 
record.
    (B) Contemplation relevant to Commissioner's determination. The 
distributing corporation's contemplation of a distribution may be 
relevant for purposes of the correction or identification of a plan of 
distribution by the Commissioner pursuant to paragraph (b)(2) of this 
section.
    (2) Proximate relationship requirement--(i) General rule. Taking 
into account paragraphs (d)(2)(ii) and (iii) of this section, a 
distribution is part of the plan of distribution to which the 
provisions of section 355 apply only if, on its own or as part of a 
series of distributions, the distribution is necessary to satisfy one 
or more requirements of section 355, or is an integral part of a series 
of distributions carried out to satisfy the requirements of section 
355, as evidenced by a written commitment in one or more official 
records of the distributing corporation.
    (ii) Existence of independent significance not determinative. The 
independent significance of a distribution (for example, the fact that 
a distribution has a separate business motive apart from one or more 
other distributions) does not preclude the satisfaction of the 
requirements under paragraph (d)(2)(i) of this section.
    (iii) Temporal proximity. A distribution that takes place in close 
temporal proximity to one or more other distributions is not properly 
included in a plan of distribution under paragraph (d)(2)(i) of this 
section unless Federal income tax principles (including the step 
transaction doctrine) would apply to determine that the distribution 
was in substance part of the plan of distribution.
    (3) Corporate business purpose consistency requirement. A 
distribution, on its own or as part of a series of distributions, is 
consistent with, and directly related to, one or more corporate 
business purposes for the one or more other distributions (for example, 
the distribution directly furthers one or more corporate business 
purposes for the one or more other distributions).
    (e) Amended plan of distribution--(1) Conditions. If the 
distributing corporation amends a plan of distribution described in 
paragraph (a)(2)(i) of this section (original plan of distribution) 
after the first step of the original plan of distribution (amended plan 
of distribution), those amendments will not cause the distributing 
corporation to fail to satisfy the requirements set forth in paragraph 
(c) of this section only if--
    (i) Those amendments are in direct response to an identifiable, 
unexpected, and material change in market or business conditions that 
occurs after the date on which the original plan of distribution is 
adopted by the distributing corporation in the manner described in 
paragraph (c)(2) of this section;
    (ii) Those amendments are necessary to achieve the one or more 
corporate business purposes for the distribution; and
    (iii) The amended plan of distribution satisfies all requirements 
set forth in paragraph (c) of this section.
    (2) Consequences of plan of distribution amended due to changed 
circumstances--(i) Qualifying amended plan of distribution. If the 
requirements set forth in paragraph (e)(1) of this section are 
satisfied, the provisions set forth in section 355 will apply to 
distributions identified in, and carried out pursuant to, the amended 
plan of distribution. That is, the Federal income tax consequences of 
all distributions included in the amended plan of distribution will be 
determined based on that plan of distribution (and not on the original 
plan of distribution).
    (ii) Non-qualifying amended plan of distribution. If an amended 
plan of distribution fails to satisfy all requirements set forth in 
paragraph (e)(1) of this section, the Commissioner may correct the 
amended plan of distribution or may identify an amended plan of 
distribution.
    (f) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples, unless 
otherwise provided: a distributing corporation (Distributing) owns all 
the stock of an existing controlled corporation (Controlled); 
Distributing properly files a plan of distribution with the IRS 
pursuant to Sec.  1.355-5 that satisfies all requirements set forth in 
paragraph (c) of this section, including providing the corporate 
business purpose for each distribution and the intended Federal income 
tax treatment of those distributions (that is, a section 355(c) 
distribution, as defined in Sec.  1.355-1(a)(2)(xviii)) and completing 
the plan of distribution as expeditiously as practicable; Distributing 
satisfies all requirements for qualification under

[[Page 5261]]

section 355; and with regard to any retained controlled corporation 
stock (as defined in Sec.  1.355-10(b)(7)), the requirements set forth 
in Sec.  1.355-10(c) are satisfied.
    (1) Example 1: Status of distributions as part of the plan of 
distribution--(i) Facts. Official records of Distributing provide that 
Distributing will distribute, in a single distribution, an amount of 
Controlled stock constituting control (control distribution) to 
Distributing's shareholders during Distributing's 2025 taxable year. 
Such records also provide that, during Distributing's 2026 taxable 
year, Distributing will distribute, in a single distribution, the 
remaining 20 percent of Controlled stock to Distributing's shareholders 
(the final distribution; together with the control distribution, the 
separation). Official records of Distributing also provide that, during 
Distributing's 2026 taxable year, Distributing will distribute an 
appreciated asset (Asset 1) to its shareholders (Asset 1 distribution). 
However, the official records express only a contemplated possibility 
that Distributing will distribute another appreciated asset (Asset 2) 
to its shareholders during Distributing's 2026 taxable year (Asset 2 
distribution). As reflected in official records of Distributing, the 
control and final distributions, and the Asset 1 and Asset 2 
distributions, will enable Distributing to focus on its retained, core 
businesses (that is, a fit-and-focus corporate business purpose).
    (ii) Analysis--(A) Distribution of Controlled stock. Each of the 
control distribution and the final distribution is properly included in 
the plan of distribution for the separation. First, as reflected in 
official records, Distributing evidences a definite intent, prior to 
the first step of the plan of distribution, to carry out, through a 
written commitment in those official records, the control distribution 
and the final distribution. See paragraph (d)(1)(i) of this section. 
Second, each of these distributions is necessary to satisfy the 
requirements for qualification under section 355, as evidenced by the 
official records of Distributing, which impose a written commitment on 
Distributing to make both distributions. See paragraph (d)(2)(i) of 
this section. Third, the control distribution and the final 
distribution are consistent with, and directly relate to, the fit-and-
focus corporate business purpose for the distributions. See paragraph 
(d)(3) of this section. Accordingly, based on the correct and properly 
filed plan of distribution, the Federal income tax consequences of the 
control and final distributions are determined under section 355.
    (B) Distribution of Asset 1. The analysis is the same as in 
paragraph (f)(1)(ii)(A) of this section. Accordingly, because the Asset 
1 distribution is properly included in the plan of distribution for the 
separation, Distributing recognizes gain on its distribution of Asset 1 
under section 355(c)(2) (as opposed to section 311(b) of the Code).
    (C) Distribution of Asset 2. The Asset 2 distribution is not 
properly included in the plan of distribution for the separation 
because not all requirements set forth in paragraph (d) of this section 
are satisfied. Specifically, as evidenced by official records of 
Distributing, Distributing treats the Asset 2 distribution as a 
contemplated possibility, thereby failing to evidence a definite intent 
to carry out the transaction. See paragraph (d)(1)(iii)(A) of this 
section. Accordingly, Distributing recognizes gain on its distribution 
of Asset 2 under section 311(b) (as opposed to section 355(c)(2)).
    (2) Example 2: Identifiable, unexpected change in market or 
business conditions--(i) Facts. The facts are the same as in paragraph 
(f)(1)(i) of this section (Example 1), except for the following. 
Following the date of adoption of Distributing's plan of distribution 
for the separation, and before the intended date of the final 
distribution, market conditions unexpectedly deteriorate to such an 
extent that, in the judgment of Distributing and its advisors, the 
final distribution should be postponed. In response, Distributing 
amends its plan of distribution during its 2026 taxable year to reflect 
Distributing's definite intent to make the final distribution when 
market conditions sufficiently improve, in the judgment of Distributing 
and its advisors. During Distributing's 2027 taxable year, market 
conditions improve sufficiently to permit the final distribution, and 
Distributing accordingly makes the final distribution during that 
taxable year.
    (ii) Analysis. The final distribution is properly included in the 
plan of distribution for the separation. See the analysis in paragraph 
(f)(1)(ii)(A) of this section (Example 1). Distributing's amendment of 
its original plan of distribution (amended plan of distribution) does 
not cause Distributing to fail to satisfy the requirements under 
paragraph (c) of this section for the following reasons. First, the 
amendments are in direct response to an identifiable, unexpected, and 
material change in market or business conditions that occurs after the 
date of adoption of the original plan of reorganization. See paragraph 
(e)(1)(i) of this section. Second, those amendments are necessary to 
achieve the fit-and-focus corporate business purpose for the 
separation. See paragraph (e)(1)(ii) of this section. Third, 
Distributing's amended plan of distribution satisfies all other 
requirements set forth in paragraph (c) of this section. See paragraph 
(e)(1)(iii) of this section. Consequently, all the requirements set 
forth in paragraph (e)(1) of this section are satisfied and therefore 
the final distribution will be treated as carried out pursuant to the 
amended plan of distribution. That is, the Federal income tax 
consequences of the control distribution and final distribution, which 
are included in the amended plan of distribution, will be determined 
based on that amended plan of distribution (and not on the original 
plan of distribution). See paragraph (e)(2)(i) of this section.
0
Par. 5. Section 1.355-5 is revised to read as follows:


Sec.  1.355-5  Information reporting and record retention requirements.

    (a) Reporting of transaction information--(1) [Reserved]
    (2) Plan of distribution. With regard to a section 355(c) 
distribution, the distributing corporation must include, with its 
return for the taxable year of the first distribution, a copy of its 
plan of distribution for the section 355(c) distribution satisfying the 
requirements of Sec.  1.355-4.
    (3) Plan of reorganization. With regard to a divisive 
reorganization, see Sec.  1.368-3(a).
    (b) [Reserved]
    (c) [Reserved]
    (d) Applicability date--(1) [Reserved]
    (2) Paragraphs (a)(2) and (3). Paragraphs (a)(2) and (3) of this 
section apply to section 355 transactions for which the earliest of the 
following dates occurs after [date of publication of final regulations 
in the Federal Register]:
    (i) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the section 355 transaction.
    (ii) The date of entry by the distributing corporation into a 
written agreement to engage in the section 355 transaction.
    (iii) The date of approval of the section 355 transaction by the 
board of directors of the distributing corporation.
    (iv) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.

[[Page 5262]]

    (v) The date a ruling request for the section 355 transaction is 
submitted to the IRS.
0
Par. 6. Section 1.355-10 is added to read as follows:


Sec.  1.355-10  Qualifying retentions of controlled corporation stock 
or securities.

    (a) Overview. For a distribution to qualify as a section 355 
transaction, there must be a genuine separation of the DSAG and the 
CSAG. In the case of a retention, the distributing corporation must 
establish to the satisfaction of the Commissioner that the retention 
was not pursuant to a plan having as one of its principal purposes the 
avoidance of Federal income tax.
    (b) Definitions. The following definitions apply for purposes of 
this section:
    (1) CSAG--(i) In general. Except as provided in paragraph 
(b)(1)(ii) of this section, the term CSAG means the separate affiliated 
group (as defined in section 355(b)(3)(B) of the Code) of which the 
controlled corporation is the common parent.
    (ii) Controlled corporation not common parent. If the controlled 
corporation is not the common parent of a separate affiliated group, 
the term CSAG refers to the controlled corporation.
    (2) Distributing corporation related person. The term distributing 
corporation related person means a person that is related to a 
distributing corporation within the meaning of section 267(b) or 
707(b)(1) of the Code, determined immediately before the control 
distribution date.
    (3) DSAG--(i) In general. The term DSAG means the separate 
affiliated group (as defined in section 355(b)(3)(B)) of which the 
distributing corporation is the common parent.
    (ii) Distributing corporation not common parent. If the 
distributing corporation is not the common parent of a separate 
affiliated group, the term DSAG means the distributing corporation.
    (4) Key employee. The term key employee means, with regard to a 
business of the DSAG or CSAG, an employee--
    (i) Who possesses specialized and unique expertise with regard to 
that business and applies that expertise in a manner that significantly 
preserves or improves the strength of that business (for example, 
through innovation or other advancement of the business);
    (ii) Whose departure would be significantly detrimental to that 
business; and
    (iii) Who would be difficult to replace due to the attributes 
described in paragraph (b)(4)(i) of this section.
    (5) Option. The term option means a call option, a warrant, a 
convertible obligation, a conversion feature of convertible stock, a 
put option, a redemption agreement (including the right to cause the 
redemption of stock), any other instrument that provides for the right 
or possibility to issue, redeem, or transfer stock (including an option 
on an option), or any other similar interest.
    (6) Qualifying retention. The term qualifying retention means a 
retention described in paragraph (c)(2) of this section.
    (7) Retained controlled corporation stock (or securities). The term 
retained controlled corporation stock (or securities) means the 
following instruments that the distributing corporation continues to 
hold after the first distribution date:
    (i) Stock or securities in a controlled corporation or another 
member of the CSAG.
    (ii) Options to acquire stock or securities in a controlled 
corporation or another member of the CSAG.
    (iii) Stock or securities in a controlled corporation or another 
member of the CSAG acquired upon the exercise of an option.
    (8) Retention. The term retention means the continued ownership of 
retained controlled corporation stock (or securities) by a distributing 
corporation after the first distribution date.
    (c) General rule--(1) Presumption of tax avoidance. A retention is 
treated as pursuant to a plan having as one of its principal purposes 
the avoidance of Federal income tax unless the retention is a 
qualifying retention.
    (2) Qualifying retention--(i) In general. A qualifying retention is 
a retention that--
    (A) Satisfies all requirements set forth in paragraphs (c)(2)(ii) 
and (iii) of this section; or
    (B) Satisfies the requirements set forth in paragraph (c)(2)(iii) 
of this section and meets the safe harbor set forth in paragraph (c)(3) 
of this section.
    (ii) Facts-and-circumstances test. A distributing corporation 
establishes to the satisfaction of the Commissioner, based on all facts 
and circumstances (including the extent to which the safe harbor 
requirements described in paragraph (c)(3) of this section are 
satisfied), that the requirements set forth in each of paragraphs 
(c)(2)(ii)(A) through (E) of this section are satisfied.
    (A) The distribution resulted in a genuine separation of the DSAG 
and the CSAG.
    (B) The retention does not allow the DSAG to retain any practical 
control over the CSAG.
    (C) There is a sufficient corporate business purpose for the 
retention as of the date on which the plan of distribution or the plan 
of reorganization (as applicable) is adopted in accordance with Sec.  
1.355-4(c)(2) or 1.368-4(d)(2), respectively.
    (D) There is a sufficient corporate business purpose for the 
retention at all times during the period of retention.
    (E) The disposition of retained controlled corporation stock (or 
securities) would not result in less Federal income tax to the 
distributing corporation (determined based on the fair market value and 
adjusted basis of such stock or securities on the first distribution 
date) than if that retained controlled corporation stock (or 
securities) had been distributed in the first distribution.
    (iii) Proportionate voting requirement. The DSAG votes any retained 
controlled corporation stock in proportion to the votes cast by the 
controlled corporation's other shareholders (other than distributing 
corporation related persons).
    (3) Safe harbor for rebutting tax avoidance presumption--(i) 
General rule. A distributing corporation is considered to have met the 
requirements of the facts-and-circumstances test set forth in paragraph 
(c)(2)(ii) of this section if the distributing corporation satisfies 
all requirements described in paragraphs (c)(3)(ii) through (vii) of 
this section and either--
    (A) With regard to a section 355(c) distribution, includes in its 
plan of distribution a description of each agreement and transaction 
that establishes the satisfaction of the requirements described in 
paragraphs (c)(3)(ii) through (vii) of this section; or
    (B) With regard to a divisive reorganization, includes in its plan 
of reorganization a description of each agreement and transaction that 
establishes the satisfaction of the requirements described in 
paragraphs (c)(3)(ii) through (vii) of this section.
    (ii) Corporate business purpose. The distributing corporation has a 
specific corporate business purpose for the retention--
    (A) As of the date on which the plan of distribution or the plan of 
reorganization (as applicable) is adopted in accordance with Sec.  
1.355-4(c)(2) or 1.368-4(d)(2), respectively; and
    (B) At all times during the period of retention.
    (iii) Controlled corporation stock is widely held. Stock of the 
controlled corporation (including a successor to the controlled 
corporation (within the meaning of Sec.  1.355-8(c)(2))) is widely

[[Page 5263]]

held during the period of retention after the first distribution date. 
For example, stock of the controlled corporation is considered to be 
widely held if it is traded on an established securities market (within 
the meaning of Sec.  1.7704-1(b)).
    (iv) Overlapping officers, directors, or key employees. No 
officers, directors, or key employees of a member of the DSAG serve as 
an officer, a director, or a key employee of a member of the CSAG 
during the period of retention, unless--
    (A) The officer, director, or key employee of a member of the DSAG 
serves as an officer, a director, or a key employee of a member of the 
CSAG solely to accommodate the CSAG's business needs;
    (B) The overlapping directors do not constitute a majority of the 
CSAG member's board; and
    (C) The duration of the overlap for officers, directors, and key 
employees is for an identified, limited period of time, not in excess 
of two years after the first distribution date.
    (v) Continuing arrangements. Any continuing arrangement between the 
distributing corporation and the controlled corporation during the 
period of retention--
    (A) Is negotiated on, and reflects, arm's-length terms; or
    (B) If the arrangement is not described in paragraph (c)(3)(v)(A) 
of this section, is--
    (1) Terminated within two years after the first distribution date; 
or
    (2) Renegotiated within two years after the first distribution date 
to reflect arm's-length terms.
    (vi) Disposition of retained controlled corporation stock (or 
securities). The plan of distribution or plan of reorganization, as 
appropriate, reflects a definite intent in the official records of the 
distributing corporation that the distributing corporation will dispose 
of all retained controlled corporation stock (or securities) by not 
later than the end of the five-year period beginning on the first 
distribution date. For purposes of this paragraph (c)(3)(vi) and 
paragraph (d) of this section, the term official records includes a 
contract or other agreement to which the distributing corporation is a 
party, a resolution or other document authorized by the distributing 
corporation's board of directors, or other document filed with the SEC 
or other Federal regulatory agency.
    (vii) Disposition of retained controlled corporation stock does not 
result in less Federal income tax. The disposition of retained 
controlled corporation stock (or securities) would not result in less 
Federal income tax to the distributing corporation (determined based on 
the fair market value and adjusted basis of such stock or securities on 
the first distribution date) than if that controlled corporation stock 
(or securities) had been distributed in the first distribution.
    (d) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples: a 
distributing corporation (Distributing) is the common parent of a 
separate affiliated group of corporations (DSAG); the DSAG includes an 
existing, wholly owned controlled corporation (Controlled) with a 
single class of outstanding stock that is directly owned by 
Distributing; and the DSAG operates a banking business and a title 
insurance business, with Controlled operating the banking business, and 
the remaining DSAG members (including Distributing) operating the title 
insurance business.
    (1) Example 1: Not a qualifying retention--(i) Facts. Distributing 
distributes 80 percent of Controlled's stock to Distributing's 
shareholders in a single distribution on a pro rata basis during 
Distributing's 2025 taxable year (first distribution). Distributing 
retains the remaining 20 percent of the Controlled stock (retention). 
Distributing does not evidence any definite intent in its official 
records to dispose of the retained Controlled stock within the five-
year period beginning on the first distribution date. The directors of 
Distributing will serve as half of the directors of Controlled for a 
four-year period after the first distribution date, after which time 
they can seek reelection. One of Distributing's purposes for the 
retention is to reduce the likelihood that new minority investors could 
acquire a substantial ownership interest in Controlled, thereby 
reducing Distributing's continued effective control over Controlled. 
Apart from whether the retention is a qualifying retention, the 
distribution satisfies all requirements to qualify under section 355.
    (ii) Analysis. The retention is treated as pursuant to a plan 
having as one of its principal purposes the avoidance of Federal income 
tax unless the retention is a qualifying retention. See paragraph 
(c)(1) of this section. To be a qualifying retention, the retention 
must satisfy the requirements under either the facts-and-circumstances 
test set forth in paragraph (c)(2)(ii) of this section or the safe 
harbor set forth in paragraph (c)(3) of this section, among other 
requirements. See paragraph (c)(2)(i) of this section. Distributing 
does not satisfy the requirements for the safe harbor set forth in 
paragraph (c)(3) of this section because directors of Distributing will 
serve as directors of Controlled for a period that is not limited to 
two years after the first distribution date, and Distributing does not 
evidence any definite intent in its official records to dispose of the 
retained Controlled stock within the five-year period beginning on the 
first distribution date. See paragraphs (c)(3)(iv) and (vi) of this 
section. Distributing also fails the facts-and-circumstances test set 
forth in paragraph (c)(2)(ii) of this section because the control 
distribution does not result in a genuine separation, Distributing 
retains practical control over Controlled, and there is not a 
sufficient corporate business purpose for the retention. See paragraphs 
(c)(2)(ii)(A) through (D) of this section. Accordingly, Distributing's 
retention is not a qualifying retention. Consequently, the first 
distribution (and any subsequent distribution of Controlled stock) does 
not qualify under section 355. See paragraphs (a) and (c)(1) of this 
section and Sec.  1.355-2(e)(2)(iii).
    (2) Example 2: Safe harbor--(i) Facts. Distributing distributes 95 
percent of Controlled's stock to Distributing's shareholders in a 
single distribution on a pro rata basis during Distributing's 2025 
taxable year (first distribution) and retains 5 percent of Controlled 
stock (retention). The corporate business purpose for the retention, as 
of the date on which the plan of distribution is adopted in accordance 
with Sec.  1.355-4(c)(2) and throughout the period of retention, is to 
enable Distributing to have assets of sufficient value (which otherwise 
would not be available absent the retention) to serve as collateral for 
needed short-term financing for Distributing's remaining business 
enterprise. The stock of Controlled is traded on an established 
securities market (within the meaning of Sec.  1.7704-1(b)) throughout 
the period of retention. The plan of distribution reflects a definite 
intent in the official records of Distributing that Distributing will 
dispose of the retained Controlled stock within five years after the 
first distribution date. No officers, directors, or key employees of a 
member of the DSAG will serve as an officer, a director, or a key 
employee of a member of the CSAG during the period of retention. Any 
continuing arrangements between Distributing and Controlled during the 
period of retention either are negotiated on arm's-length terms or will 
terminate within two years after the first distribution date. The 
disposition of retained Controlled stock will not result in less 
Federal income tax to

[[Page 5264]]

Distributing (determined based on the fair market value and adjusted 
basis of such stock on the first distribution date) than if that 
Controlled stock had been distributed in the first distribution. The 
plan of distribution describes each of the foregoing agreements and 
transactions. Apart from whether the retention is a qualifying 
retention, the distribution satisfies all requirements to qualify under 
section 355.
    (ii) Analysis. Distributing satisfies all requirements for the safe 
harbor set forth in paragraph (c)(3) of this section. However, to have 
a qualifying retention, Distributing also must meet the requirement set 
forth in paragraph (c)(2)(iii) of this section. See paragraph 
(c)(2)(i)(B) of this section.
    (3) Example 3: Overlapping directors--(i) Facts. The facts are the 
same as in paragraph (d)(2)(i) of this section (Example 2), except that 
directors of Distributing that are recognized as experts in the banking 
industry will serve as two of the six directors of Controlled after the 
first distribution date. Their presence on the Controlled board is 
intended to reassure the financial markets by providing a sense of 
continuity. Their terms will expire after two years, at which point 
they cannot seek reelection during the period of retention.
    (ii) Analysis. The two directors of Distributing that will serve as 
directors of Controlled do so solely to accommodate Controlled's 
business needs, do not constitute a majority of Controlled's board, and 
will not serve as directors of Controlled's board for more than two 
years after the first distribution date. See paragraph (c)(3)(iv) of 
this section. Accordingly, Distributing satisfies all requirements for 
the safe harbor set forth in paragraph (c)(3) of this section. However, 
to have a qualifying retention, Distributing also must meet the 
requirement set forth in paragraph (c)(2)(iii) of this section. See 
paragraph (c)(2)(i)(B) of this section.
    (iii) Ability to seek reelection during retention period. The facts 
are the same as in paragraph (d)(3)(i) of this section (Example 3), 
except that the two directors of Distributing that will serve as 
directors of Controlled after the first distribution date may seek 
reelection after their two-year term expires. Distributing does not 
satisfy all requirements for the safe harbor set forth in paragraph 
(c)(3) of this section. See paragraph (c)(3)(iv)(C) of this section.
    (4) Example 4: Safe harbor is not met but facts-and-circumstances 
test is met--(i) Facts. The facts are the same as in paragraph 
(d)(2)(i) of this section (Example 2), except that Distributing must 
retain the Controlled stock (to meet collateral requirements) for at 
least six years after the first distribution date, as reflected in the 
plan of distribution and the official records of Distributing.
    (ii) Analysis--(A) Safe harbor requirements not satisfied. 
Distributing's retention of Controlled stock does not qualify for the 
safe harbor set forth in paragraph (c)(3) of this section because the 
plan of distribution does not reflect a definite intent in the official 
records of Distributing that Distributing will dispose of all retained 
Controlled stock within five years of the first distribution date. See 
paragraph (c)(3)(vi) of this section.
    (B) Facts-and-circumstances test satisfied. The facts-and-
circumstances test set forth in paragraph (c)(2)(ii) of this section is 
satisfied because the control distribution results in a genuine 
separation of Distributing and Controlled, the retention does not allow 
Distributing to retain any practical control over Controlled, there is 
a sufficient corporate business purpose for the retention as of the 
date on which the plan of distribution is adopted in accordance with 
Sec.  1.355-4(c)(2), there is a sufficient corporate business purpose 
for the retention at all times during the period of retention, and the 
disposition of the retained Controlled stock will not result in less 
Federal income tax to Distributing than if Distributing had distributed 
the Controlled stock in the first distribution. Accordingly, provided 
Distributing also meets the requirement set forth in paragraph 
(c)(2)(iii) of this section, the retention is a qualifying retention 
under paragraph (c)(2)(i)(A) of this section.
    (5) Example 5: Not a qualifying retention--(i) Facts. The facts are 
the same as in paragraph (d)(2)(i) of this section (Example 2), except 
that Distributing owns multiple blocks of Controlled stock and the 
shares of retained Controlled stock are specifically designated for 
retention because the adjusted basis of that stock exceeds its fair 
market value as of the first distribution date. Distributing 
subsequently sells the retained Controlled stock in a transaction in 
which Distributing recognizes a loss for Federal income tax purposes.
    (ii) Analysis. The retention is treated as pursuant to a plan 
having as one of its principal purposes the avoidance of Federal income 
tax unless the retention is a qualifying retention. See paragraph 
(c)(1) of this section. Distributing does not satisfy the requirements 
for the safe harbor set forth in paragraph (c)(3) of this section, 
because the disposition of the retained Controlled stock results in 
less Federal income tax to Distributing than if that Controlled stock 
had been distributed in the first distribution. See paragraph 
(c)(3)(vii) of this section. For the same reason, the retention does 
not satisfy the facts-and-circumstances test set forth in paragraph 
(c)(2)(ii) of this section. See paragraph (c)(2)(ii)(E) of this 
section. Accordingly, the retention is not a qualifying retention. See 
paragraph (c)(2)(i) of this section. Consequently, the distribution 
does not qualify under section 355. See paragraphs (a) and (c)(1) of 
this section and Sec.  1.355-2(e)(2)(iii).
0
Par. 7. Section 1.357-0 is added to read as follows:


Sec.  1.357-0  Table of contents.

    This section lists the major captions that appear in Sec. Sec.  
1.357-1 through 1.357-5.

Sec.  1.357-1 Assumption of liability.

    (a) Overview.
    (b) Definitions.
    (1) Code.
    (2) Commissioner.
    (3) Contingent liability.
    (4) Controlled corporation.
    (5) CSAG.
    (i) In general.
    (ii) Controlled corporation not a common parent.
    (6) Debt.
    (7) Distributing corporation.
    (8) Distributing corporation debt.
    (i) In general.
    (ii) Section 381(a) transactions.
    (9) Distributing corporation liability.
    (10) Divisive reorganization.
    (11) DSAG.
    (i) In general.
    (ii) Distributing corporation not a common parent.
    (12) Earliest applicable date.
    (i) In general.
    (ii) Similar transaction.
    (13) Historical distributing corporation debt.
    (14) IRS.
    (15) Liability.
    (i) In general.
    (ii) Certain obligations incurred in the ordinary course of 
business.
    (16) Plan of reorganization.
    (17) Refinanced distributing corporation debt.
    (18) Section 357 regulations.
    (19) Trade payable.
    (20) Transferee corporation.
    (21) Transferor.
    (22) Traveling note.

Sec.  1.357-2 Application of section 357(a).

    (a) In general.
    (b) Amount realized.
    (c) Treatment of traveling notes.
    (d) Determination of amount of liability assumed.
    (1) In general.
    (i) Recourse liability.
    (ii) Nonrecourse liability.
    (2) [Reserved]
    (e) Dominion or control over payment of assumed liability.

[[Page 5265]]

    (1) General rule.
    (2) Dominion or control.
    (i) In general.
    (ii) Segregated account; related person.
    (iii) No legal or practical dominion or control.
    (f) Examples.
    (1) Example 1: Application of general rule.
    (2) Example 2: Dominion or control.
    (3) Example 3: Exception to dominion or control.

Sec.  1.357-3 Application of section 357(b).

    (a) Principal purpose standard.
    (1) General rule.
    (2) Ordinary course of business requirement.
    (b) Amount of gain recognized.
    (c) Burden of proof.
    (d) Eligible distributing corporation liabilities.
    (1) Scope.
    (2) In general.
    (3) Eligible assumptions of Distributing corporation 
liabilities.
    (4) Distributing corporation debt.
    (i) In general.
    (ii) Exceptions.
    (e) Examples.
    (1) Example 1: Application of general rule.
    (2) Example 2: Refinanced distributing corporation debt.
    (3) Example 3: Traveling note.
    (4) Example 4: Trade payables.
    (5) Example 5: Assumption to avoid Federal income tax in a 
divisive reorganization.
    (6) Example 6: Assumption to avoid Federal income tax in a 
section 351 exchange.

Sec.  1.357-4 Application of section 357(c).

    (a) Liabilities in excess of adjusted basis.
    (1) General rule.
    (2) Exceptions.
    (3) Certain liabilities excluded.
    (i) General rule.
    (ii) Exceptions.
    (b) Determination of character of gain of multiple capital 
assets.
    (c) Examples.
    (1) Example 1: Determination of character of gain.
    (2) Example 2: Capital and non-capital assets.
    (3) Example 3: Liabilities in excess of adjusted basis.


Sec.  1.357-5  Applicability date.

    (a) Applicability date.
0
Par. 8. Section 1.357-1 is revised to read as follows:


Sec.  1.357-1  Assumption of liability.

    (a) Overview. The section 357 regulations apply to the assumption 
by a transferee corporation of a liability of a transferor pursuant to 
an exchange between the transferor and the transferee corporation in a 
transaction qualifying under section 351 of the Code (relating to a 
transfer of property to a corporation controlled by the transferor) or 
section 361 of the Code (relating to the nonrecognition of gain or loss 
to a corporation upon the exchange of property pursuant to a plan of 
reorganization).
    (b) Definitions. The following definitions apply for purposes of 
the section 357 regulations:
    (1) Code. The term Code means the Internal Revenue Code of 1986, as 
amended.
    (2) Commissioner. The term Commissioner means the Commissioner of 
Internal Revenue.
    (3) Contingent liability. The term contingent liability means a 
liability (other than a debt) that includes one or more contingent 
payments.
    (4) Controlled corporation. The term controlled corporation means 
the controlled corporation described in section 355(a)(1)(A) of the 
Code.
    (5) CSAG--(i) In general. Except as provided in paragraph 
(b)(5)(ii) of this section, the term CSAG means the separate affiliated 
group (as defined in section 355(b)(3)(B)) of which a controlled 
corporation is the common parent.
    (ii) Controlled corporation not a common parent. If the controlled 
corporation is not the common parent of a separate affiliated group, 
the term CSAG refers to the controlled corporation.
    (6) Debt. The term debt means a liability pursuant to an instrument 
or a contractual arrangement that constitutes debt under general 
principles of Federal income tax law. See Sec.  1.1275-1(d).
    (7) Distributing corporation. The term distributing corporation 
means the distributing corporation described in section 355(a)(1)(A).
    (8) Distributing corporation debt--(i) In general. The term 
distributing corporation debt means debt for which the distributing 
corporation is the obligor.
    (ii) Section 381(a) transactions. The term distributing corporation 
debt includes a debt that satisfies both of the following requirements:
    (A) The distributing corporation assumed the debt in a transaction 
to which section 381(a) of the Code applies; and
    (B) The debt assumed in the transaction was incurred prior to the 
earliest applicable date.
    (9) Distributing corporation liability. The term distributing 
corporation liability means a liability for which the distributing 
corporation is the obligor.
    (10) Divisive reorganization. The term divisive reorganization 
means a series of transactions carried out pursuant to a plan of 
reorganization that qualify as a reorganization described in sections 
355 and 368(a)(1)(D) or (G) of the Code.
    (11) DSAG--(i) In general. Except as provided in paragraph 
(b)(11)(ii) of this section, the term DSAG means the separate 
affiliated group (as defined in section 355(b)(3)(B)) of which the 
distributing corporation is the common parent.
    (ii) Distributing corporation not a common parent. If the 
distributing corporation is not the common parent of a separate 
affiliated group, the term DSAG means the distributing corporation.
    (12) Earliest applicable date--(i) In general. The term earliest 
applicable date means the date that is the earliest of--
    (A) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the divisive reorganization or a similar 
transaction;
    (B) The date of entry by the distributing corporation into a 
written agreement to engage in the divisive reorganization or a similar 
transaction; and
    (C) The date of approval of the divisive reorganization or a 
similar transaction by the board of directors of the distributing 
corporation.
    (ii) Similar transaction. For purposes of paragraph (b)(12)(i) of 
this section, the term similar transaction means a similar acquisition 
within the meaning of Sec.  1.355-7(h)(12) and (13).
    (13) Historical distributing corporation debt. The term historical 
distributing corporation debt means a debt of the distributing 
corporation that was in existence as of the earliest applicable date, 
has an original term that ends after the date of the exchange described 
in Sec.  1.361-2(a) or 1.361-3(a), and is identified in the plan of 
reorganization or original plan of reorganization (if amended).
    (14) IRS. The term IRS means the Internal Revenue Service.
    (15) Liability--(i) In general. The term liability means a debt, a 
contingent liability, or any other fixed or contingent obligation, 
without regard to whether the obligation otherwise has been taken into 
account for Federal income tax purposes.
    (ii) Certain obligations incurred in the ordinary course of 
business--(A) In general. Except as provided in paragraph 
(b)(15)(ii)(B) of this section, an obligation incurred in the ordinary 
course of business pursuant to a bilateral contract is not a liability.
    (B) Exception regarding financial statements. An obligation 
described in paragraph (b)(15)(ii)(A) of this section is a liability, 
in whole or in part, to the extent the obligation is reflected in one 
or more financial statements of the obligor as a liability, reserve, or 
similar item.

[[Page 5266]]

    (16) Plan of reorganization. The term plan of reorganization has 
the meaning provided in Sec.  1.368-4.
    (17) Refinanced distributing corporation debt. The term refinanced 
distributing corporation debt means debt of a distributing 
corporation--
    (i) That is incurred on or after the earliest applicable date; and
    (ii) The proceeds of which are used to satisfy a historical 
distributing corporation debt.
    (18) Section 357 regulations. The term section 357 regulations 
means this section and Sec. Sec.  1.357-2 through 1.357-5.
    (19) Trade payable. The term trade payable means debt arising in 
the ordinary course of a business from sales, leases, licenses, or the 
rendition of services provided to or for the distributing corporation.
    (20) Transferee corporation. The term transferee corporation means 
a corporation to which property is transferred pursuant to an exchange 
described in section 351 or 361.
    (21) Transferor. The term transferor means the person that 
transfers property to a transferee corporation pursuant to an exchange 
described in section 351 or 361.
    (22) Traveling note. The term traveling note means, with regard to 
an exchange described in section 351 or 361, a debt of the transferor 
that converts, pursuant to its terms, into a debt of the transferee 
corporation.
0
Par. 9. Section 1.357-2 is revised to read as follows:


Sec.  1.357-2  Application of section 357(a).

    (a) In general. Except as provided in Sec. Sec.  1.357-3 and 1.357-
4, and subject to the requirements set forth in paragraph (e) of this 
section, the assumption by a transferee corporation of a liability of a 
transferor will not be treated as money or other property received by 
the transferor, and will not prevent an exchange between the transferee 
corporation and the transferor from being within the provisions of 
section 351 or 361 of the Code, if--
    (1) The transferor receives property that would be permitted to be 
received under section 351 or 361 without the recognition of gain to 
the transferor if that property were the sole consideration received by 
the transferor; and
    (2) As part of the consideration, the transferee corporation 
assumes a liability of the transferor.
    (b) Amount realized. Neither section 357(a) of the Code nor this 
section precludes any liability of a transferor that is assumed by a 
transferee corporation from being taken into account for purposes of 
computing the amount of gain or loss realized to the transferor under 
section 1001 of the Code resulting from the exchange between the 
transferor and the transferee corporation.
    (c) Treatment of traveling notes. A transferee corporation is 
treated as assuming a traveling note with respect to which the 
transferor is the debtor at the time at which the debtor on the 
traveling note converts from the transferor to the transferee 
corporation under the terms of the note.
    (d) Determination of amount of liability assumed--(1) In general. 
For purposes of this section and Sec. Sec.  1.357-3, 1.357-4, 1.358-3, 
1.358-5, 1.358-7, 1.361-3(c)(2), and 1.368-2(d), the rules of this 
paragraph (d) apply in determining the amount of liabilities assumed by 
a transferee corporation.
    (i) Recourse liability. A recourse liability (or portion thereof) 
of a transferor is treated as having been assumed by the transferee 
corporation if, as determined based on all facts and circumstances, the 
transferee corporation has agreed to, and is expected to, satisfy or 
indemnify the transferor for the liability (or portion thereof), 
whether or not the transferor has been relieved of the liability (or 
portion thereof).
    (ii) Nonrecourse liability--(A) In general. A nonrecourse liability 
of a transferor is treated as having been assumed by the transferee 
corporation to which any asset subject to that liability is 
transferred.
    (B) Limitation on amount of nonrecourse liability treated as 
assumed. The amount of any nonrecourse liability of a transferor 
treated as assumed under paragraph (d)(1)(ii)(A) of this section is 
reduced by the lesser of--
    (1) The amount of that liability that an owner of other assets not 
transferred to the transferee corporation and also subject to that 
liability has agreed with the transferee corporation to, and is 
expected to, satisfy; or
    (2) The fair market value of the assets described in paragraph 
(d)(1)(ii)(B)(1) of this section (determined without regard to section 
7701(g) of the Code).
    (2) [Reserved]
    (e) Dominion or control over payment of assumed liability--(1) 
General rule. If the transferee corporation (or, in the case of a 
divisive reorganization, a member of the CSAG) makes a payment to 
satisfy an assumed liability that results in the transferor (or, in the 
case of a divisive reorganization, a member of the DSAG) having legal 
or practical dominion or control over any part of the payment--
    (i) That part of the payment is treated as money or other property 
received by the transferor;
    (ii) The rules in section 351(b) or 361(b) (as applicable) apply to 
determine the Federal income tax consequences of the receipt by the 
transferor of the money or other property; and
    (iii) The rules in this section and Sec. Sec.  1.357-3 and 1.357-4 
do not apply (that is, the Federal income tax consequences of the 
payment are not determined under section 357).
    (2) Dominion or control--(i) In general. Except as provided in 
paragraph (e)(2)(ii) or (iii) of this section, the determination of 
whether a payment is within a transferor's legal or practical dominion 
or control is made based on all facts and circumstances.
    (ii) Segregated account; related person. For purposes of this 
paragraph (e), a payment is treated as within a transferor's legal or 
practical dominion or control if made to a segregated account of the 
transferor (or, in the case of a divisive reorganization, a member of 
the DSAG) or any person through which the transferor (or, in the case 
of a divisive reorganization, a member of the DSAG) can direct the 
treatment or disposition of the payment, regardless of the brevity or 
transitory nature of the period in which the payment is in such an 
account.
    (iii) No legal or practical dominion or control. For purposes of 
this paragraph (e), a payment is treated as not within the legal or 
practical dominion or control of a transferor if all conditions set 
forth in paragraph (e)(2)(iii)(A) or (B) of this section (as 
appropriate) are satisfied.
    (A) Indemnification agreements. For payments made pursuant to an 
indemnification agreement:
    (1) The transferee corporation is legally prohibited from assuming 
the liability (for example, because the transferor is prohibited from 
causing any other person to assume the liability).
    (2) The indemnification agreement requires the transferor to first 
satisfy the obligation that is the subject of the indemnification 
agreement before the transferor is permitted to receive payment from 
the transferee corporation.
    (3) The transferor is in the same net economic position it would 
have been in if the transferee corporation legally were allowed to 
assume the liability.
    (B) Other payments. For any payment not made pursuant to an 
indemnification agreement:
    (1) The payment is dedicated to the satisfaction of a liability of 
the transferor

[[Page 5267]]

identified in an agreement or the plan of reorganization.
    (2) The payment is made to an independent trustee or escrow agent 
that is not affiliated with the transferor.
    (3) The payment is not made to any account of the transferor (or, 
in the case of a divisive reorganization, a member of the DSAG) or any 
person through which the transferor (or, in the case of a divisive 
reorganization, a member of the DSAG) could direct the payment.
    (4) The transferor and the transferee corporation treat any income, 
gain, or loss on the payment proceeds as income, gain, or loss to the 
transferee corporation.
    (5) Any excess of the payment amount (and any income or gain 
thereon) over the amount paid to satisfy the liability reverts to the 
transferee corporation.
    (f) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples: the 
principal purpose of the transferor with respect to the assumption of 
liabilities is not to avoid Federal income tax on the exchange; there 
is a bona fide business purpose for the assumption of liabilities; the 
amount of liabilities assumed by the transferee corporation does not 
exceed the adjusted basis of the assets transferred to the transferee 
corporation in the exchange; and any liability assumption is provided 
for in an agreement or a plan of reorganization entered into between 
the transferor and the transferee corporation before the date of the 
exchange.
    (1) Example 1: Application of general rule--(i) Facts. In an 
exchange that qualifies under section 351, Individual A transfers to a 
transferee corporation property with an adjusted basis of $10,000x in 
exchange for stock of the corporation with a fair market value of 
$8,000x, money amounting to $3,000x, and the assumption by the 
corporation of a liability of Individual A amounting to $4,000x.
    (ii) Analysis. Individual A's realized gain is $5,000x, computed as 
follows:

                     Table 1 to Paragraph (f)(1)(ii)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Stock received, fair market value............................    $8,000x
Money received...............................................     3,000x
Liability assumed by transferee corporation..................     4,000x
Total consideration received.................................    15,000x
Less: Adjusted basis of property transferred.................    10,000x
Gain realized................................................     5,000x
------------------------------------------------------------------------

    The gain recognized to Individual A is limited to the $3,000x of 
money received, because the assumption of the $4,000x liability does 
not constitute money or other property. See paragraph (a) of this 
section and section 351(b).
    (2) Example 2: Dominion or control--(i) Facts. A distributing 
corporation (Distributing) transfers one of its businesses to a newly 
formed controlled corporation (Controlled) in exchange for Controlled 
stock (contribution). Distributing distributes all the Controlled stock 
to its shareholders (distribution; together with the contribution, the 
separation). As part of the contribution, Controlled agrees to assume a 
contingent liability of Distributing. The separation satisfies all 
requirements to qualify as a divisive reorganization. In a taxable year 
following the year of the distribution, the contingent liability 
becomes fixed and determinable. To satisfy the liability, Controlled 
makes a $200x payment to a segregated account maintained by 
Distributing, and Distributing uses the $200x in the segregated account 
to make payment to the obligee.
    (ii) Analysis. Distributing is treated as having dominion or 
control over the $200x payment despite its receipt of the payment in a 
segregated account. See paragraphs (e)(2)(i) and (ii) of this section. 
Accordingly, the $200x payment is treated as money received by 
Distributing in the contribution, and the rules in section 361(b) 
apply. See paragraph (e)(1) of this section.
    (3) Example 3: Exception to dominion or control--(i) Facts. The 
facts are the same as in paragraph (f)(2)(i) of this section (Example 
2), except that, as part of the contribution, Distributing and 
Controlled enter into an indemnity agreement with respect to a 
contingent liability of Distributing that Controlled cannot assume in 
form under State law. Pursuant to the indemnity agreement, Distributing 
remains the primary obligor for State law purposes, but Controlled must 
reimburse Distributing for any payment that Distributing is required to 
make to satisfy the contingent liability. The indemnity agreement is 
treated as an assumption by Controlled of the contingent liability 
under paragraph (d) of this section. In a taxable year following the 
year of the distribution, the contingent liability becomes fixed and 
determinable, and Distributing makes a $200x payment to the obligee to 
satisfy the liability. Pursuant to the terms of the indemnity 
agreement, Controlled transfers to Distributing $200x, which 
Distributing retains. The $200x payment from Controlled to Distributing 
places Distributing in the same net economic position it would have 
been in if Controlled were allowed to assume the contingent liability 
under State law.
    (ii) Analysis. For purposes of paragraph (e)(1) of this section, 
Distributing is treated as not having dominion or control over the 
$200x payment despite its receipt of the payment. See paragraph 
(e)(2)(iii)(A) of this section. Accordingly, the $200x payment is not 
treated as money received by Distributing in the contribution. See 
paragraph (a) of this section.
0
Par. 10. Sections 1.357-3 through 1.357-5 are added to read as follows:


Sec.  1.357-3  Application of section 357(b).

    (a) Principal purpose standard--(1) General rule. Section 1.357-
2(a) does not apply to any exchange involving the assumption by a 
transferee corporation of a liability of a transferor if the principal 
purpose of the transferor with respect to that assumption is either--
    (i) To avoid Federal income tax on the exchange; or
    (ii) Not a bona fide business purpose.
    (2) Ordinary course of business requirement. With regard to an 
assumption by a transferee corporation of a liability described in 
paragraph (a)(1) of this section, a principal purpose is presumed to 
exist if the liability was not incurred in the ordinary course of a 
business of the transferor.
    (b) Amount of gain recognized. For purposes of determining the 
amount of gain recognized upon an exchange described in paragraph (a) 
of this section, the total amount of liabilities assumed or acquired 
pursuant to that exchange (and not merely a particular liability with 
respect to which the tax avoidance or non-business purpose existed) is 
treated as money or other property received by the transferor under 
section 351(b) or 361(b) (as applicable) of the Code upon the exchange.
    (c) Burden of proof. If the Commissioner determines that the 
transferor's principal purpose with respect to the assumption of a 
liability by a transferee corporation was to avoid Federal income tax 
on the exchange or was not a bona fide business purpose, and if the 
transferor contests that determination, the burden is on the transferor 
to prove by a clear preponderance of the evidence that the liability 
assumption should not be treated as the receipt of money or other 
property. Therefore, the transferor must prove by such a clear 
preponderance of all the evidence that the absence of a purpose to 
avoid Federal income tax on the exchange, or the presence of a bona 
fide business purpose, is unmistakable.
    (d) Eligible distributing corporation liabilities--(1) Scope. The 
rules of this

[[Page 5268]]

paragraph (d) apply solely to divisive reorganizations.
    (2) In general. A distributing corporation is presumed to have the 
principal purpose described in paragraph (a) of this section (and, as a 
result, is presumed to be treated as recognizing an amount of gain 
determined under paragraph (b) of this section) if the controlled 
corporation assumes a distributing corporation liability that is not 
eligible to be assumed under paragraph (d)(3) of this section.
    (3) Eligible assumptions of Distributing corporation liabilities. 
Distributing corporation liabilities are eligible to be assumed under 
Sec.  1.357-2(a) in a divisive reorganization if--
    (i) The distributing corporation liabilities to be assumed are 
described in a plan of reorganization or original plan of 
reorganization (if amended);
    (ii) The distributing corporation liabilities were incurred in the 
ordinary course of business of the distributing corporation; and
    (iii) The assumption of such distributing corporation liabilities 
is necessary--
    (A) To ensure the transfer to the controlled corporation of all 
liabilities properly associated with the business assets transferred to 
that corporation; and
    (B) To result in the controlled corporation assuming liabilities in 
an amount that properly relates to its business operations, the 
earnings of which will be used to properly satisfy those liabilities.
    (4) Distributing corporation debt--(i) In general. Except as 
provided in paragraph (d)(4)(ii) of this section, distributing 
corporation debt eligible to be assumed under paragraph (d)(3) of this 
section must qualify as historical distributing corporation debt.
    (ii) Exceptions. The following exceptions apply to the general rule 
in paragraph (d)(4)(i) of this section:
    (A) Qualifying trade payables. For purposes of paragraph (d)(4)(i) 
of this section, solely trade payables of the distributing corporation 
that meet the requirements set forth in paragraph (d)(3) of this 
section are not required to qualify as historical distributing 
corporation debt.
    (B) Assumptions of refinanced distributing corporation debt. For 
purposes of paragraph (d)(4)(i) of this section, refinanced 
distributing corporation debt is treated as historical distributing 
corporation debt if all the following requirements are met:
    (1) The distributing corporation has a direct business purpose for 
the controlled corporation's assumption of the refinanced distributing 
corporation debt. For purposes of this paragraph (d)(4)(ii)(B)(1), the 
modification of the capital structure of the distributing corporation 
or the controlled corporation is not a direct business purpose unless 
that modification directly accomplishes a corporate business purpose of 
the distributing corporation.
    (2) The distributing corporation's refinancing of its historical 
distributing corporation debt is completed before the controlled 
corporation's assumption of that refinanced distributing corporation 
debt.
    (3) Following the controlled corporation's assumption of the 
refinanced distributing corporation debt, the distributing corporation 
and the controlled corporation are in the same net economic position as 
each corporation would have been had the controlled corporation assumed 
the historical distributing corporation debt.
    (4) The distributing corporation's refinancing of its historical 
distributing corporation debt and the subsequent assumption of that 
refinanced distributing corporation debt are included in the plan of 
reorganization for the divisive reorganization.
    (5) There is no untaxed gain or other Federal income tax benefit 
resulting to the distributing corporation or the controlled corporation 
from the distributing corporation's refinancing of a historical 
distributing corporation debt and the assumption by the controlled 
corporation of that refinanced distributing corporation debt.
    (6) The business assets transferred by the distributing corporation 
to the controlled corporation in the exchange described in section 
361(a) are associated with the refinanced distributing corporation debt 
assumed by the controlled corporation.
    (7) The refinancing of a historical distributing corporation debt 
by the distributing corporation and the subsequent assumption of that 
refinanced distributing corporation debt by the controlled corporation 
result in the controlled corporation assuming liabilities in an amount 
that properly relates to its business operations and will be properly 
satisfied with earnings generated by those operations.
    (C) Qualifying assumption of a traveling note. For purposes of 
paragraph (d)(4)(i) of this section, a controlled corporation's 
assumption of a traveling note (within the meaning of Sec.  1.357-2(c)) 
issued to refinance a historical distributing corporation debt will be 
treated as historical distributing corporation debt only if all 
requirements set forth in paragraph (d)(4)(ii)(B) of this section are 
satisfied.
    (D) Revolving credit agreements. For purposes of paragraph 
(d)(4)(i) of this section, a revolving credit agreement to which the 
distributing corporation is a debtor qualifies as historical 
distributing corporation debt only if--
    (1) The distributing corporation entered into the agreement before 
the earliest applicable date;
    (2) That agreement does not expire until after the date of the 
exchange described in Sec.  1.361-2(a) or 1.361-3(a); and
    (3) That agreement is identified in the plan of reorganization or 
original plan of reorganization (if amended).
    (e) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples: any 
liability assumption is provided for in an agreement or a plan of 
reorganization entered into between the transferor and transferee 
corporation before the date of the exchange; and the amount of 
liabilities assumed by the transferee corporation does not exceed the 
adjusted basis of the assets transferred to the transferee corporation 
in the exchange.
    (1) Example 1: Application of general rule--(i) Facts. In an 
exchange that qualifies under section 351, Individual A transfers to a 
transferee corporation property with an adjusted basis of $10,000x in 
exchange for stock of the corporation with a fair market value of 
$8,000x, money amounting to $3,000x, and the assumption by the 
corporation of debt of Individual A amounting to $4,000x. Individual 
A's principal purpose for causing the transferee corporation to assume 
the $4,000x liability is to avoid Federal income tax on the exchange.
    (ii) Analysis. Individual A's realized gain is $5,000x, computed as 
follows:

                     Table 1 to Paragraph (e)(1)(ii)
------------------------------------------------------------------------
 
------------------------------------------------------------------------
Stock received, fair market value............................    $8,000x
Money received...............................................     3,000x
Liability assumed by transferee corporation..................     4,000x
Total consideration received.................................    15,000x
Less: Adjusted basis of property transferred.................    10,000x
Gain realized................................................     5,000x
------------------------------------------------------------------------

    Because Individual A's principal purpose for the assumption of the 
$4,000x liability is to avoid Federal income tax on the exchange, the 
amount of gain recognized is $5,000x. See paragraphs (a) and (b) of 
this section and section 351(b).
    (2) Example 2: Refinanced distributing corporation debt--(i)

[[Page 5269]]

Facts--(A) In general. A distributing corporation (Distributing) 
transfers one of its businesses to a newly formed controlled 
corporation (Controlled) in exchange for Controlled stock and 
Controlled's assumption of liabilities of Distributing (contribution). 
Distributing distributes all the Controlled stock to its shareholders 
(distribution; together with the contribution, the separation). The 
separation satisfies all requirements to qualify as a divisive 
reorganization.
    (B) Refinanced debt. One liability that Distributing intended 
Controlled to assume in the contribution is a $4,000x portion of a 
$25,000x historical Distributing debt to a creditor that Distributing 
incurred in connection with the transferred business. However, 
Distributing is unable to apportion this historical debt with 
Controlled because the creditor refuses to relieve Distributing of its 
primary liability for repayment of the debt. Therefore, unless 
Distributing refinances that portion of its historical debt, 
Distributing will be unable to have Controlled assume an amount of 
existing historical debt that properly relates to, and to have that 
debt properly be satisfied with earnings from, the transferred 
business. Accordingly, pursuant to the plan of reorganization for the 
separation, Distributing obtains from a bank a new long-term $4,000x 
loan on which Distributing is primarily liable (New Loan), Distributing 
uses the proceeds from the New Loan to repay $4,000x of the $25,000x 
historical debt, Controlled then assumes the New Loan in the 
contribution (Controlled refinanced debt assumption), and the bank 
relieves Distributing of its primary liability for repayment of the New 
Loan.
    (ii) Analysis. The Controlled refinanced debt assumption satisfies 
all requirements set forth in paragraph (d)(4)(ii)(B) of this section 
and, therefore, is treated under paragraph (d)(3) of this section as an 
eligible assumption by Controlled to which Sec.  1.357-2(a) applies. 
Distributing has a direct business purpose for Controlled's assumption 
of the New Loan. See paragraph (d)(4)(ii)(B)(1) of this section. 
Distributing's refinancing of its historical debt is completed before 
Controlled's assumption of the New Loan. See paragraph (d)(4)(ii)(B)(2) 
of this section. Following the Controlled refinanced debt assumption, 
Distributing and Controlled are in the same net economic position as 
they would have been had Controlled assumed an equivalent portion of 
Distributing's historical debt. See paragraph (d)(4)(ii)(B)(3) of this 
section. Distributing's refinancing of historical debt and the 
Controlled refinanced debt assumption occur pursuant to the plan of 
reorganization for the separation. See paragraph (d)(4)(ii)(B)(4) of 
this section. No untaxed gain or other Federal income tax benefit 
results to Distributing or Controlled from Distributing's refinancing 
of historical Distributing debt and the Controlled refinanced debt 
assumption. See paragraph (d)(4)(ii)(B)(5) of this section. The 
business assets transferred by Distributing to Controlled in the 
section 361 exchange are associated with the New Loan. See paragraph 
(d)(4)(ii)(B)(6) of this section. Lastly, the Distributing refinancing 
of historical debt and the Controlled refinanced debt assumption result 
in Controlled assuming liabilities in an amount that properly relates 
to, and that properly will be satisfied with earnings generated by, its 
business operations. See paragraph (d)(4)(ii)(B)(7) of this section.
    (3) Example 3: Traveling note--(i) Facts. The facts are the same as 
in paragraph (e)(2)(i) of this section (Example 2), except that, 
pursuant to the terms of the New Loan, Controlled replaces Distributing 
as the debtor on the New Loan upon the contribution.
    (ii) Analysis. The New Loan is treated as a traveling note. See 
Sec.  1.357-1(b)(22). Therefore, Controlled is treated as assuming the 
New Loan at the time Controlled becomes the debtor on the New Loan 
(that is, upon the contribution). See Sec.  1.357-2(c). The analysis is 
the same as in paragraph (e)(2)(ii) of this section (Example 2).
    (4) Example 4: Trade payables--(i) Facts--(A) In general. Pursuant 
to a plan of reorganization, a distributing corporation (Distributing) 
transfers one of its two operating divisions (Business B) to a newly 
formed controlled corporation (Controlled) in exchange for Controlled 
stock and the assumption of $20,000x of Distributing liabilities 
(contribution), and Distributing distributes all the Controlled stock 
to its shareholders on a pro rata basis (distribution; together with 
the contribution, the separation). The separation satisfies all 
requirements to qualify as a divisive reorganization.
    (B) Liabilities assumed. The $20,000x of liabilities assumed by 
Controlled arose in the ordinary course of Business B's operations from 
the rendition of services to or for Distributing. The liabilities were 
incurred after the earliest applicable date, but before the 
contribution date identified in the plan of reorganization for the 
separation. The assumption of those liabilities is necessary to ensure 
the transfer to Controlled of all liabilities properly associated with 
Business B and to result in Controlled assuming an amount of 
Distributing liabilities that properly relates to, and that will be 
properly satisfied with earnings from, Business B.
    (ii) Analysis. The $20,000x of liabilities assumed by Controlled 
are trade payables because they constitute debt that arose in the 
ordinary course of Business B's operations from the rendition of 
services to or for Distributing. See Sec.  1.357-1(b)(19). Accordingly, 
these liabilities are not required to qualify as historical 
distributing corporation debt to be eligible for assumption by 
Controlled. See paragraph (d)(4)(ii)(A) of this section. Consequently, 
all $20,000x of trade payables are eligible to be assumed by Controlled 
under paragraph (d)(3) of this section. See paragraph (d)(4)(i) of this 
section. Therefore, Distributing is not treated as having the principal 
purpose described in paragraph (a)(1) of this section for Controlled's 
assumption of the $20,000x of liabilities, and, consequently, those 
liabilities are not treated as money received by Distributing in the 
contribution. See paragraphs (a) and (d)(2) of this section.
    (5) Example 5: Assumption to avoid Federal income tax in a divisive 
reorganization--(i) Facts. A distributing corporation (Distributing) 
transfers one of its businesses (Business A) to a newly formed 
controlled corporation (Controlled) in exchange for Controlled stock 
and Controlled's assumption of historical Distributing debt 
(contribution). The historical Distributing debt consists of two loans 
(Loan 1 and Loan 2) that were incurred by Distributing prior to the 
earliest applicable date and have an original term that ends after the 
date of the contribution. Loan 1 was incurred in the ordinary course of 
business and is associated with Business A. Loan 2 was not incurred in 
the ordinary course of business and is not associated with Business A. 
Distributing distributes all the Controlled stock to its shareholders 
(distribution; together with the contribution, the separation). The 
separation satisfies all requirements to qualify as a divisive 
reorganization.
    (ii) Analysis. Because Loan 2 was not incurred in the ordinary 
course of business and the assumption of that debt is not necessary to 
ensure the transfer to Controlled of all liabilities properly 
associated with Business A, Loan 2 is presumed to have been assumed for 
a principal purpose described in paragraph (a) of this section. See 
paragraphs (d)(2) and (3) of this section. Accordingly, Controlled's 
assumption of the historical Distributing debt (that is, both Loan 1 
and Loan 2) is presumed to be treated as money received by Distributing 
in the

[[Page 5270]]

exchange. See paragraphs (a) and (b) of this section and Sec.  1.357-
2(a). However, Distributing would recognize no gain on the exchange if, 
pursuant to the plan of reorganization, Distributing distributes to its 
shareholders an amount of money equivalent to the amount it is treated 
as having received in the contribution or transfers an equivalent 
amount of money to its creditors in satisfaction of Distributing debt 
in a distribution or transfer meeting the requirements set forth in 
Sec.  1.361-3(b)(2).
    (6) Example 6: Assumption to avoid Federal income tax in a section 
351 exchange--(i) Facts. In a transaction that qualifies as a section 
351 exchange, Corporation A contributes one of its two businesses to 
newly formed Corporation B in exchange for all of B's stock and B's 
assumption of liabilities of A. One of the liabilities assumed by B was 
not incurred in the ordinary course of A's business.
    (ii) Analysis. Because the liability assumed by B was not incurred 
in the ordinary course of business, the liability is presumed to have 
been assumed for a principal purpose described in paragraph (a)(1) of 
this section. See paragraph (a)(2) of this section. Accordingly, B's 
assumption of liabilities is presumed to be treated as money received 
by A on the exchange. For purposes of determining the amount of gain A 
recognizes on the exchange under section 351(b), the total amount of 
liabilities assumed by B would be treated as money received by A. See 
paragraph (b) of this section.


Sec.  1.357-4  Application of section 357(c).

    (a) Liabilities in excess of adjusted basis--(1) General rule. 
Except as provided in paragraph (a)(2) of this section, in an exchange 
to which section 351 of the Code is applicable, or to which section 361 
of the Code is applicable by reason of a divisive reorganization that 
qualifies under sections 355 and 368(a)(1)(D) of the Code, a transferor 
is treated as recognizing gain from the sale or exchange of a capital 
asset or of property that is not a capital asset, as applicable, in an 
amount equal to the excess of--
    (i) The sum of the amount of liabilities of the transferor assumed 
by the transferee corporation; over
    (ii) The total adjusted basis of the property transferred by the 
transferor pursuant to the exchange.
    (2) Exceptions. Paragraph (a)(1) of this section does not apply to 
any exchange--
    (i) To which Sec.  1.357-3(a) applies;
    (ii) That is pursuant to a plan of reorganization for a transaction 
that qualifies as a reorganization under section 368(a)(1)(G) in which 
no former shareholder of the transferor corporation receives any 
consideration for the shareholder's stock; or
    (iii) To which section 351 applies if the exchange--
    (A) Also qualifies as part of a reorganization described in section 
368(a)(1)(A), (C), (D) (provided the requirements of section 354(b)(1) 
of the Code are satisfied), or (G) (provided the requirements of 
section 354(b)(1) are satisfied); and
    (B) Is described as a reorganization pursuant to a filing with the 
IRS under Sec.  1.368-3.
    (3) Certain liabilities excluded--(i) General rule. Except as 
provided in paragraph (a)(3)(ii) of this section, the following 
liabilities are excluded for purposes of applying paragraph (a)(1) of 
this section:
    (A) A liability the payment of which would give rise to a 
deduction.
    (B) A liability the payment of which would give rise to the 
creation of, or increase in, the basis of any property.
    (C) A liability the payment of which would be described in section 
736(a) of the Code.
    (ii) Exceptions. Paragraph (a)(3)(i) of this section does not apply 
to any liability to the extent that--
    (A) The incurrence of the liability resulted in a deduction;
    (B) The incurrence of the liability resulted in the creation of, or 
an increase in, the basis of any property; or
    (C) The liability is not--
    (1) Incurred in the ordinary course of business; or
    (2) Associated with any assets transferred.
    (b) Determination of character of gain of multiple capital assets. 
The determination of whether gain resulting from the transfer of 
capital assets is long-term or short-term capital gain is made by 
reference to the transferor's holding period for the transferred 
assets, based on the proportionate fair market value of the 
transferor's long-term assets to its short-term assets.
    (c) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples: no exchange 
is described in paragraph (a)(2) of this section; any liability 
assumption is provided for in an agreement or a plan of reorganization 
entered into between the transferor and the transferee corporation 
before the date of the exchange; no liability is described in paragraph 
(a)(3)(i) of this section; all liabilities were incurred in the 
ordinary course of business and are associated with the assets 
transferred; the transferor's principal purpose with respect to the 
assumption of liabilities is not to avoid Federal income tax on the 
exchange; and there is a bona fide business purpose for the assumption 
of liabilities.
    (1) Example 1: Determination of character of gain--(i) Facts. In an 
exchange that qualifies under section 351, Individual A transfers to a 
transferee corporation property with an adjusted basis of $1,000x in 
exchange for stock of the transferee corporation with a fair market 
value of $8,000x and the assumption by the transferee corporation of 
Individual A debt amounting to $4,000x. All assets transferred by 
Individual A to the transferee corporation are capital assets. By 
reference to Individual A's holding period at the time of the exchange, 
one half of the assets transferred (with a fair market value of $4,000x 
and an adjusted basis of $500x) have a long-term holding period, and 
the other half of the assets transferred (with a fair market value of 
$4,000x and an adjusted basis of $500x) have a short-term holding 
period.
    (ii) Analysis. The excess of the amount of liabilities assumed over 
the adjusted basis of the assets transferred ($4,000x-$1,000x = 
$3,000x) is treated as gain from the sale or exchange of a capital 
asset. See paragraph (a)(1) of this section. Half of Individual A's 
capital gain resulting from the deemed sale or exchange of a capital 
asset (that is, $1,500x) is long-term capital gain, and the other half 
is short-term capital gain. See paragraph (b) of this section.
    (2) Example 2: Capital and non-capital assets--(i) Facts. The facts 
are the same as in paragraph (c)(1)(i) of this section (Example 1), 
except that the long-term assets transferred are capital assets, and 
the short-term assets are other than capital assets.
    (ii) Analysis. Half of the gain recognized by Individual A is 
treated as capital gain, and the other half of the gain recognized by 
Individual A is treated as gain from the sale or exchange of assets 
other than capital assets. See paragraph (a)(1) of this section.
    (3) Example 3: Liabilities in excess of adjusted basis--(i) Facts. 
Pursuant to a plan of reorganization, a distributing corporation 
(Distributing) transfers one of its businesses (Business A) to a newly 
formed controlled corporation (Controlled) in exchange for Controlled 
stock and Controlled's assumption of a historical Distributing debt 
(contribution), and Distributing distributes all the Controlled stock 
to its shareholders (distribution; together with the contribution, the 
separation). The separation satisfies all requirements to qualify as a 
divisive reorganization. At the time of the contribution,

[[Page 5271]]

Distributing has an aggregate adjusted basis of $5,000x in the Business 
A assets, which are the only assets subject to a nonrecourse loan of 
$10,000x.
    (ii) Analysis. Under paragraph (a) of this section, Controlled's 
assumption of Distributing's Business A loan causes Distributing to 
recognize gain on the transfer of Business A to Controlled as though 
Distributing had sold or exchanged the Business A assets to Controlled. 
Specifically, because the amount of the loan ($10,000x) exceeds the 
total adjusted basis of the Business A assets ($5,000x), Distributing 
recognizes gain of $5,000x ($10,000x-$5,000x) on the exchange. See 
paragraph (a)(1) of this section. The character of that gain depends on 
the character of the assets transferred in the exchange. See paragraph 
(b) of this section.


Sec.  1.357-5  Applicability date.

    (a) Applicability date. The rules of Sec. Sec.  1.357-1 through 
1.357-4 apply to transactions intended to qualify under section 351 or 
361 of the Code for which the earliest of the following dates occurs 
after [DATE OF PUBLICATION OF FINAL REGULATIONS IN THE FEDERAL 
REGISTER]:
    (1) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (2) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (3) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (4) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (5) The date a ruling request for the transaction is submitted to 
the IRS.
0
Par. 11. Section 1.361-0 is added to read as follows:


Sec.  1.361-0  Table of contents.

    This section lists the major captions that appear in Sec. Sec.  
1.361-1 through 1.361-6.

Sec.  1.361-1 Nonrecognition of gain or loss to corporations under 
section 361.

    (a) Overview.
    (1) In general.
    (2) Scope.
    (b) Definitions.
    (1) Acquiring corporation.
    (2) Acquisitive reorganization.
    (3) Amount.
    (4) Appreciated nonqualified property.
    (i) In general.
    (ii) Inclusions.
    (5) Assume; assumption.
    (6) Code.
    (7) Contingent liability.
    (8) Control distribution.
    (9) Control distribution date.
    (10) Controlled corporation.
    (11) Controlled corporation contingent liability.
    (12) Controlled corporation debt.
    (13) Controlled corporation related person.
    (14) Covered convertible debt.
    (15) CSAG.
    (i) In general.
    (ii) Controlled corporation not a common parent.
    (16) Debt.
    (17) Direct issuance transaction.
    (18) Distributing corporation.
    (19) Distributing corporation contingent liability.
    (20) Distributing corporation debt.
    (i) In general.
    (ii) Section 381(a) transactions.
    (21) Distributing corporation liability.
    (22) Distributing corporation related person.
    (23) Distribution.
    (24) Distribution date.
    (25) Distribution period.
    (26) Divisive reorganization.
    (27) DSAG.
    (i) In general.
    (ii) Distributing corporation not a common parent.
    (28) Earliest applicable date.
    (i) In general.
    (ii) Similar transaction.
    (29) Final distribution.
    (30) Final distribution date.
    (31) First distribution.
    (32) First distribution date.
    (33) Historical distributing corporation debt.
    (34) Intermediary.
    (i) In general.
    (ii) Inclusion.
    (35) Intermediated exchange.
    (36) Liability.
    (i) In general.
    (ii) Certain obligations incurred in the ordinary course of 
business.
    (37) Non-qualifying creditor.
    (38) Obligor.
    (39) Other property.
    (40) Party to a reorganization.
    (41) Plan of reorganization.
    (42) Post-distribution payment.
    (43) Qualified property.
    (44) Qualifying creditor.
    (45) Qualifying debt elimination transaction.
    (46) Refinanced historical distributing corporation debt.
    (47) Related person.
    (48) Revolving credit agreement.
    (49) Section 361 consideration.
    (i) In general.
    (ii) Inclusions.
    (iii) Exclusion.
    (50) Section 361 regulations.
    (51) Target corporation.
    (i) In general.
    (ii) Inclusions.
    (52) Trade payable.
    (53) True-up payment.
    (54) Unrelated ultimate creditor.

Sec.  1.361-2 Exchanges solely for stock or securities under section 
361(a).

    (a) General rule.
    (b) Exchanges not solely for stock or securities.
    (c) Example.

Sec.  1.361-3 Exchanges not solely for stock or securities under 
section 361(b).

    (a) Scope.
    (1) In general.
    (2) Exception.
    (b) Money or other property distributed in acquisitive 
reorganizations.
    (1) Distributions to shareholders.
    (2) Transfers to creditors.
    (c) Money or other property distributed in divisive 
reorganizations.
    (1) Distributions to shareholders.
    (2) Transfers to creditors.
    (i) In general.
    (ii) Application of adjusted basis limitation to divisive 
reorganizations described in sections 355 and 368(a)(1)(D).
    (3) Post-distribution payments received by a distributing 
corporation.
    (i) Treatment as section 361 consideration.
    (ii) Segregated account requirement.
    (iii) Disposition requirement.
    (4) Post-distribution payments received by a controlled 
corporation.
    (i) Characterization as contribution in the reorganization 
exchange.
    (ii) Value not reasonably ascertainable.
    (iii) Proper accounting.
    (d) Money or other property not distributed.
    (e) No recognition of loss.
    (f) Examples.
    (1) Example 1: Acquisitive reorganization.
    (2) Example 2: Divisive reorganization with money or other 
property distributed pursuant to plan of reorganization.
    (3) Example 3: Ordinary course distribution.
    (4) Example 4: Special stock repurchase program.
    (5) Example 5: Existing stock repurchase program.
    (6) Example 6: Divisive reorganization with money or other 
property not distributed within the 12-month period.
    (7) Example 7: Post-distribution payments from a distributing 
corporation to a controlled corporation.
    (8) Example 8: Post-distribution payment from a controlled 
corporation to a distributing corporation.

Sec.  1.361-4 Distributions of property under section 361(c).

    (a) Distributions of qualified property.
    (1) Distributions to shareholders.
    (2) Treatment of certain transfers to creditors.
    (i) Acquisitive reorganizations.
    (ii) Divisive reorganizations.
    (b) Distributions of appreciated nonqualified property.
    (1) Deemed sale treatment.
    (2) Treatment of liabilities.
    (c) No recognition of loss.
    (d) Coordination with other provisions; cross-references.
    (e) Examples.
    (1) Example 1: Distribution of qualified property.
    (2) Example 2: Distribution timing requirement.

[[Page 5272]]

    (3) Example 3: Distribution of nonqualified property.

Sec.  1.361-5 Transfers to creditors of distributing corporation in 
divisive reorganizations under section 361(b)(3) and (c)(3).

    (a) General rule.
    (b) Qualifying creditor.
    (1) General status as a creditor with regard to distributing 
corporation debt.
    (2) Related-creditor prohibition.
    (i) General rule.
    (ii) Exception for certain distributing corporation related 
persons.
    (iii) Determination of related-person status.
    (c) Eligible distributing corporation debt.
    (1) Overview.
    (2) Qualification as eligible distributing corporation debt.
    (i) Historical distributing corporation debt.
    (ii) Refinancing exception for historical distributing 
corporation debt.
    (iii) Revolving credit agreements.
    (iv) Qualifying trade payables.
    (v) Direct issuance debt.
    (3) Determination of amount of distributing corporation debt.
    (i) Purpose.
    (ii) Aggregate amount of distributing corporation debt.
    (iii) Offsetting debts taken into account.
    (d) Maximum amount of distributing corporation debt.
    (1) General calculation.
    (2) Eight-quarterly-average test.
    (i) Determination.
    (ii) Calculation of distributing corporation debt at the close 
of each quarter.
    (iii) Distributing corporation debt held by distributing 
corporation related person.
    (e) Qualifying debt elimination transactions.
    (1) Overview.
    (2) Qualifying original creditor exchanges.
    (3) Qualifying intermediated exchanges.
    (i) Prohibition on intermediary benefits.
    (ii) Prohibition on acquiring debt from distributing 
corporation.
    (iii) Arm's-length bargaining required.
    (iv) Prohibition on profit-sharing or limitation.
    (v) Independence requirement.
    (vi) Minimum temporal requirement.
    (4) Qualifying direct issuance transactions.
    (i) Overview.
    (ii) Facts-and-circumstances test.
    (iii) Safe harbor for direct issuance transactions.
    (iv) Prohibition regarding variable pricing and similar 
agreements.
    (f) Transitorily eliminated distributing corporation debt.
    (1) Overview.
    (2) Transitory elimination.
    (i) General rule.
    (ii) Borrowings not in the ordinary course.
    (iii) Borrowings in the ordinary course.
    (g) Examples.
    (1) Example 1: Transfer of money or other property to related 
creditor.
    (2) Example 2: Refinancing of historical distributing 
corporation debt.
    (3) Example 3: Eight-quarterly-average test.
    (4) Example 4: Amount of distributing corporation debt under 
revolving credit agreement.
    (5) Example 5: Effect of offsetting debts on amount of 
distributing corporation debt.
    (6) Example 6: Qualifying original creditor exchange.
    (7) Example 7: Not a qualifying direct issuance transaction.
    (8) Example 8: Qualifying intermediated exchange.

Sec.  1.361-6 Applicability date.
    (a) Applicability date.
0
Par. 12. Section 1.361-1 is revised to read as follows:


Sec.  1.361-1  Nonrecognition of gain or loss to corporations under 
section 361.

    (a) Overview--(1) In general. The section 361 regulations apply--
    (i) To exchanges of property by a target corporation pursuant to a 
plan of reorganization for property from an acquiring corporation that 
is a party to the reorganization; and
    (ii) To distributions by the target corporation to its shareholders 
of property pursuant to a plan of reorganization (including transfers 
by the target corporation treated as such distributions).
    (2) Scope. Paragraph (b) of this section provides definitions for 
purposes of the regulations under section 361 of the Code. Section 
1.361-2 provides rules regarding exchanges in which a target 
corporation receives solely stock or securities in an acquiring 
corporation. Section 1.361-3 provides rules regarding exchanges in 
which a target corporation receives money or other property in addition 
to stock or securities in an acquiring corporation. Section 1.361-4 
provides rules regarding distributions of property received by a target 
corporation in the exchange. Section 1.361-5 provides rules regarding 
transfers of section 361 consideration to creditors of a distributing 
corporation in a divisive reorganization. Section 1.361-6 provides the 
applicability date.
    (b) Definitions. The following definitions apply for purposes of 
the section 361 regulations:
    (1) Acquiring corporation. The term acquiring corporation means a 
corporation (including a controlled corporation) that receives property 
transferred by a target corporation in an exchange to which section 
361(a) applies.
    (2) Acquisitive reorganization. The term acquisitive reorganization 
means a transaction that qualifies as a reorganization under--
    (i) Section 368(a)(1)(A) of the Code (including by reason of 
section 368(a)(2)(D) or section 368(a)(2)(E));
    (ii) Section 368(a)(1)(C);
    (iii) Section 368(a)(1)(D) (provided the requirements of section 
354(b)(1) of the Code are satisfied);
    (iv) Section 368(a)(1)(F); or
    (v) Section 368(a)(1)(G) (provided the requirements of section 
354(b)(1) are satisfied).
    (3) Amount. The term amount means:
    (i) With respect to liabilities, except as provided under paragraph 
(b)(3)(ii) or (iii) of this section, the amount of cash that a willing 
assignor would pay to a willing assignee to assume the liability in an 
arm's-length transaction.
    (ii) With respect to debt, except as provided in paragraph 
(b)(3)(iii) of this section, the adjusted issue price (as defined in 
Sec.  1.1275-1(b)) of the debt.
    (iii) With respect to covered convertible debt, the fair market 
value of the covered convertible debt as of the earliest applicable 
date.
    (4) Appreciated nonqualified property--(i) In general. The term 
appreciated nonqualified property means property distributed by a 
target corporation under Sec.  1.361-4(b) that--
    (A) Is property other than qualified property; and
    (B) At the time of the distribution of that property under section 
361(c), has a fair market value that exceeds the adjusted basis of that 
property in the hands of the target corporation.
    (ii) Inclusions. The term appreciated nonqualified property 
includes all controlled corporation stock or securities--
    (A) Treated as other property under section 355(a)(3)(B) of the 
Code;
    (B) Distributed in a disqualified distribution, as defined in 
section 355(d)(2); or
    (C) Distributed by a distributing corporation pursuant to an 
acquisition described in section 355(e)(2).
    (5) Assume; assumption. With respect to a liability, the terms 
assume, assumption, and similar terms have the meaning of ``assumed'' 
as set forth in Sec.  1.357-2(d).
    (6) Code. The term Code means the Internal Revenue Code of 1986, as 
amended.
    (7) Contingent liability. The term contingent liability means a 
liability (other than a debt) that includes one or more contingent 
payments.
    (8) Control distribution. The term control distribution means a 
distribution of controlled corporation stock, or of controlled 
corporation stock and securities, that results in the distribution by 
the distributing corporation of an amount of controlled corporation 
stock constituting control (within the meaning of section 368(c) of the 
Code).
    (9) Control distribution date. The term control distribution date 
means the date of the control distribution.
    (10) Controlled corporation. The term controlled corporation means 
the

[[Page 5273]]

controlled corporation described in section 355(a)(1)(A).
    (11) Controlled corporation contingent liability. The term 
controlled corporation contingent liability means a contingent 
liability for which a controlled corporation is the obligor.
    (12) Controlled corporation debt. The term controlled corporation 
debt means debt for which a controlled corporation is the obligor.
    (13) Controlled corporation related person. The term controlled 
corporation related person means a related person with respect to a 
controlled corporation.
    (14) Covered convertible debt. The term covered convertible debt 
means debt with a conversion option described in Sec.  1.1275-4(a)(4) 
that is reasonably certain to be exercised as of the earliest 
applicable date based on all facts and circumstances--
    (i) Taking into account Sec.  1.1504-4(g) (to the extent relevant); 
but
    (ii) Not taking into account the safe harbors described in Sec.  
1.1504-4(g)(3).
    (15) Debt. The term debt means a liability pursuant to an 
instrument or a contractual arrangement that constitutes debt under 
general principles of Federal income tax law. See Sec.  1.1275-1(d).
    (16) Direct issuance debt. The term direct issuance debt means the 
newly incurred debt a distributing corporation incurs with a creditor 
as part of a direct issuance transaction and the proceeds of which are 
used to repay historical distributing corporation debt.
    (17) Direct issuance transaction. The term direct issuance 
transaction means a transaction, or a series of transactions (or 
similar transaction or series of transactions), in which--
    (i) The distributing corporation incurs distributing corporation 
debt with a creditor after the earliest applicable date;
    (ii) The distributing corporation uses the proceeds of the newly 
incurred distributing corporation debt (directly or indirectly) to 
repay historical distributing corporation debt; and
    (iii) The new creditor exchanges that newly incurred distributing 
corporation debt for controlled corporation stock or securities held by 
the distributing corporation.
    (18) Distributing corporation. The term distributing corporation 
means the distributing corporation described in section 355(a)(1)(A).
    (19) Distributing corporation contingent liability. The term 
distributing corporation contingent liability means a contingent 
liability for which the distributing corporation is the obligor.
    (20) Distributing corporation debt--(i) In general. The term 
distributing corporation debt means debt for which the distributing 
corporation is the obligor.
    (ii) Section 381(a) transactions. The term distributing corporation 
debt includes a debt that satisfies the following requirements:
    (A) The distributing corporation assumed the debt in a transaction 
to which section 381(a) of the Code applies; and
    (B) The debt assumed in the transaction was incurred prior to the 
earliest applicable date.
    (21) Distributing corporation liability. The term distributing 
corporation liability means a liability for which the distributing 
corporation is the obligor.
    (22) Distributing corporation related person. The term distributing 
corporation related person means a related person with respect to the 
distributing corporation.
    (23) Distribution. The term distribution means a single 
distribution, or one of a series of distributions, of controlled 
corporation stock, or of controlled corporation stock and securities--
    (i) Intended to qualify as a divisive reorganization; and
    (ii) Made by the distributing corporation pursuant to the plan of 
reorganization.
    (24) Distribution date. If all distributions comprising an intended 
divisive reorganization take place on one date--
    (i) The term distribution date means that date; and
    (ii) Each of the terms first distribution date, control 
distribution date, and final distribution date refers to the 
distribution date.
    (25) Distribution period. The term distribution period means the 
period of time that--
    (i) Begins at the time of the first distribution; and
    (ii) Ends at the time of the final distribution.
    (26) Divisive reorganization. The term divisive reorganization 
means a series of transactions carried out pursuant to a plan of 
reorganization that qualify as a reorganization under sections 355 and 
368(a)(1)(D) or (G).
    (27) Earliest applicable date--(i) In general. The term earliest 
applicable date means the date that is the earliest of--
    (A) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the divisive reorganization or a similar 
transaction;
    (B) The date of entry by the distributing corporation into a 
written agreement to engage in the divisive reorganization or a similar 
transaction; and
    (C) The date of approval of the divisive reorganization or a 
similar transaction by the board of directors of the distributing 
corporation.
    (ii) Similar transaction. For purposes of paragraph (b)(27)(i) of 
this section, the term similar transaction means a similar acquisition 
within the meaning of Sec.  1.355-7(h)(12) and (13).
    (28) Eligible distributing corporation debt. The term eligible 
distributing corporation debt means distributing corporation debt 
described in Sec.  1.361-5(c).
    (29) Final distribution. The term final distribution means, with 
respect to a series of distributions, the last distribution that is 
made by the distributing corporation pursuant to the plan of 
reorganization.
    (30) Final distribution date. The term final distribution date 
means the date of the final distribution.
    (31) First distribution. The term first distribution means, with 
respect to a series of distributions, the earliest distribution that is 
made by the distributing corporation pursuant to the plan of 
reorganization.
    (32) First distribution date. The term first distribution date 
means the date of the first distribution.
    (33) Historical distributing corporation debt. The term historical 
distributing corporation debt means distributing corporation debt 
described in Sec.  1.361-5(c)(2).
    (34) Intermediary--(i) In general. The term intermediary means an 
investment bank or other person that--
    (A) Is not a distributing corporation related person or a 
controlled corporation related person, at any time during the period 
beginning on the earliest applicable date and ending on the date of 
completion of the plan of reorganization; and
    (B) Provides capital or financial services to the distributing 
corporation or the controlled corporation, directly or indirectly, to 
facilitate the divisive reorganization.
    (ii) Inclusion. The term intermediary includes a related person of 
the intermediary.
    (35) Intermediated exchange. The term intermediated exchange means 
a transaction, or a series of transactions (or similar transaction or 
series of transactions), in which an intermediary--
    (i) Acquires historical distributing corporation debt on a 
secondary market from the holders of that debt; and
    (ii) Exchanges that historical distributing corporation debt for 
controlled corporation stock or securities held by the distributing 
corporation.

[[Page 5274]]

    (36) Liability--(i) In general. The term liability means a debt, a 
contingent liability, or any other fixed or contingent obligation, 
without regard to whether the obligation otherwise has been taken into 
account for Federal income tax purposes.
    (ii) Certain obligations incurred in the ordinary course of 
business--(A) In general. Except as provided in paragraph 
(b)(36)(ii)(B) of this section, an obligation incurred in the ordinary 
course of business pursuant to a bilateral contract is not a liability.
    (B) Exception regarding financial statements. An obligation 
described in paragraph (b)(36)(ii)(A) of this section is a liability, 
in whole or in part, to the extent the obligation is reflected in one 
or more financial statements of the obligor as a liability, reserve, or 
similar item.
    (37) Non-qualifying creditor. The term non-qualifying creditor has 
the meaning provided in Sec.  1.361-5(b)(2)(i).
    (38) Obligor. With regard to a liability, the term obligor means 
the person that has agreed and is expected (as determined based on all 
facts and circumstances) to satisfy the liability, taking into 
account--
    (i) All relevant provisions of the Code (including the principles 
of section 357(d) (liability treated as assumed));
    (ii) Treasury regulations (26 CFR chapter I); and
    (iii) General principles of Federal income tax law, including the 
substance-over-form doctrine.
    (39) Other property. The term other property means section 361 
consideration other than money, acquiring corporation stock or 
securities, and stock of a corporation controlling the acquiring 
corporation (within the meaning of section 368(c)).
    (40) Party to a reorganization. The term party to a reorganization 
has the meaning provided in Sec.  1.368-2(f).
    (41) Plan of reorganization. The term plan of reorganization has 
the meaning provided in Sec.  1.368-4.
    (42) Post-distribution payment. The term post-distribution payment 
means a transfer of money or other property by the controlled 
corporation to the distributing corporation or by the distributing 
corporation to the controlled corporation--
    (i) Pursuant to the plan of reorganization; and
    (ii) Subsequent to the control distribution date.
    (43) Qualified property. The term qualified property means any 
stock in (or right to acquire stock in), or obligation of--
    (i) The target corporation;
    (ii) The acquiring corporation, if that stock (or right) or 
obligation is received by the target corporation in an exchange 
described in Sec.  1.361-2 or Sec.  1.361-3; or
    (iii) A corporation controlling the acquiring corporation (within 
the meaning of section 368(c)), if--
    (A) The controlling corporation is a party to the reorganization; 
and
    (B) That stock (or right) or obligation is received by the target 
corporation in an exchange described in in Sec.  1.361-2 or Sec.  
1.361-3.
    (44) Qualifying creditor. The term qualifying creditor means a 
creditor described in Sec.  1.361-5(b).
    (45) Qualifying debt elimination transaction. The term qualifying 
debt elimination transaction means a transaction described in Sec.  
1.361-5(e).
    (46) Refinanced historical distributing corporation debt. The term 
refinanced historical distributing corporation debt has the meaning 
provided in Sec.  1.361-5(c)(2)(ii).
    (47) Related person. The term related person means a person related 
within the meaning of section 267(b) or section 707(b)(1) of the Code.
    (48) Revolving credit agreement. The term revolving credit 
agreement means a loan structure that--
    (i) Permits the borrower to make multiple borrowings and re-
borrowings during the term of the revolving credit facility;
    (ii) Limits the aggregate borrowings to a pre-determined maximum 
amount that the one or more lenders agree to fund; and
    (iii) May, or may not, require the borrower to pledge any of its 
assets as security for the loan (that is, it may be a secured or 
unsecured loan structure).
    (49) Section 361 consideration--(i) In general. The term section 
361 consideration means, with regard to an exchange to which Sec.  
1.361-2 or Sec.  1.361-3 applies, the consideration received by a 
target corporation from an acquiring corporation in exchange for 
property transferred by the target corporation to the acquiring 
corporation pursuant to the plan of reorganization.
    (ii) Inclusions. The term section 361 consideration includes--
    (A) Acquiring corporation stock or stock of a corporation 
controlling the acquiring corporation (within the meaning of section 
368(c));
    (B) Acquiring corporation securities;
    (C) Acquiring corporation non-security debt;
    (D) Money transferred by the acquiring corporation; and
    (E) Other property (other than acquiring corporation non-security 
debt) transferred by the acquiring corporation.
    (iii) Exclusion. The term section 361 consideration does not 
include an assumption of a liability described in Sec.  1.357-2(a).
    (50) Section 361 regulations. The term section 361 regulations 
means this section and Sec. Sec.  1.361-2 through 1.361-6.
    (51) Target corporation--(i) In general. The term target 
corporation means the corporation that is treated under section 361(a) 
or (b) as exchanging its property pursuant to a plan of reorganization 
for section 361 consideration.
    (ii) Inclusions. The term target corporation includes solely--
    (A) A corporation that is acquired in an acquisitive 
reorganization; and
    (B) A distributing corporation in a divisive reorganization.
    (52) Trade payable. The term trade payable means debt arising in 
the ordinary course of a business from sales, leases, licenses, or the 
rendition of services provided to or for the distributing corporation.
    (53) True-up payment. The term true-up payment means, with respect 
to an exchange of controlled corporation stock or securities, or 
controlled corporation non-security debt, for distributing corporation 
debt pursuant to a plan of reorganization of a divisive reorganization, 
a payment--
    (i) Under an agreement entered into between the distributing 
corporation (including any distributing corporation related person) and 
an intermediary (including any related person with regard to the 
intermediary); and
    (ii) Made pursuant to that agreement by--
    (A) The distributing corporation to the intermediary as the result 
of a decrease in value of any controlled corporation stock or 
securities or controlled corporation non-security debt (as applicable) 
between an initial valuation date and a subsequent valuation date; or
    (B) The intermediary to the distributing corporation as the result 
of an increase in value of any controlled corporation stock or 
securities or controlled corporation non-security debt (as applicable) 
between an initial valuation date and a subsequent valuation date.
    (54) Unrelated ultimate creditor. The term unrelated ultimate 
creditor means a creditor that is not--
    (i) A distributing corporation related person; or
    (ii) A related person with regard to a distributing corporation 
related person.
0
Par. 13. Sections 1.361-2 through 1.361-6 are added to read as follows:


Sec.  1.361-2  Exchanges solely for stock or securities under section 
361(a).

    (a) General rule. A target corporation that is a party to a 
reorganization does not recognize any gain or loss on a transfer of 
property by that corporation to an acquiring corporation if--

[[Page 5275]]

    (1) The acquiring corporation or a corporation controlling the 
acquiring corporation is a party to the reorganization;
    (2) The target corporation receives solely stock or securities of--
    (i) The acquiring corporation in exchange for the transferred 
property; or
    (ii) The corporation controlling the acquiring corporation in 
exchange for the transferred property; and
    (3) The exchange occurs pursuant to the plan of reorganization.
    (b) Exchanges not solely for stock or securities. With regard to an 
exchange to which paragraph (a) of this section would apply but for the 
fact that the target corporation receives money or other property in 
addition to stock and securities of an acquiring corporation or a 
corporation controlling the acquiring corporation, see Sec.  1.361-3.
    (c) Example--(1) Facts. Pursuant to a plan of reorganization for a 
transaction that qualifies as a reorganization described in section 
368(a)(1)(C), a target corporation (Target) transfers all its property 
to an acquiring corporation (Acquiring) solely in exchange for 
Acquiring stock, which Target distributes to its shareholders in 
complete liquidation of Target. Target properly files a plan of 
reorganization with the IRS pursuant to Sec.  1.368-3(a)(5) that 
satisfies all requirements set forth in Sec.  1.368-4, including 
properly including and identifying Target and Acquiring as parties to 
the reorganization.
    (2) Analysis. Target recognizes no gain or loss on the transfer of 
its property to Acquiring solely in exchange for Acquiring stock 
because Target and Acquiring are parties to the reorganization, Target 
receives solely Acquiring stock in exchange for Target's property, and 
the exchange occurs pursuant to the plan of reorganization. See 
paragraph (a) of this section.


Sec.  1.361-3  Exchanges not solely for stock or securities under 
section 361(b).

    (a) Scope--(1) In general. If Sec.  1.361-2(a) would apply to an 
exchange between a target corporation and an acquiring corporation but 
for the fact that the target corporation receives money or other 
property, in addition to stock and securities of the acquiring 
corporation or stock of the corporation controlling the acquiring 
corporation, the exchange is governed by paragraphs (b) through (e) 
this section.
    (2) Exception. If the exchange is pursuant to a reorganization that 
qualifies under section 368(a)(1)(F) of the Code, the exchange is not 
governed by paragraphs (b) through (e) of this section. See Sec.  
1.368-2(m)(3)(iii).
    (b) Money or other property distributed in acquisitive 
reorganizations--(1) Distributions to shareholders. In an acquisitive 
reorganization, the target corporation recognizes no gain from an 
exchange described in paragraph (a)(1) of this section if the target 
corporation distributes the money or other property received in the 
exchange to its shareholders pursuant to the plan of reorganization.
    (2) Transfers to creditors. In an acquisitive reorganization, if a 
target corporation receives money or other property in an exchange 
described in paragraph (a)(1) of this section, the target corporation 
is treated as distributing the money or other property to its 
shareholders for purposes of paragraph (b)(1) of this section if the 
target corporation transfers that money or other property to a 
creditor--
    (i) Pursuant to the plan of reorganization; and
    (ii) In satisfaction of debt of the target corporation.
    (c) Money or other property distributed in divisive 
reorganizations--(1) Distributions to shareholders. In a divisive 
reorganization, the distributing corporation recognizes no gain from an 
exchange described in paragraph (a)(1) of this section if, pursuant to 
the plan of reorganization, the distributing corporation--
    (i) Deposits the money received in the exchange in a segregated 
account; and
    (ii) Distributes the money or other property received in the 
exchange to its shareholders no later than the end of the 12-month 
period beginning on the date of the exchange.
    (2) Transfers to creditors--(i) In general. Subject to the adjusted 
basis limitation set forth in paragraph (c)(2)(ii) of this section, in 
a divisive reorganization, if a distributing corporation receives money 
or other property in an exchange described in paragraph (a)(1) of this 
section, the distributing corporation is treated as distributing the 
money or other property to its shareholders for purposes of paragraph 
(c)(1) of this section if, pursuant to the plan of reorganization, the 
distributing corporation--
    (A) Deposits the money received in the exchange in a segregated 
account; and
    (B) Transfers that money or other property to a creditor--
    (1) In satisfaction of distributing corporation debt in a transfer 
meeting the requirements set forth in Sec.  1.361-5; and
    (2) Within the period described in paragraph (c)(1)(ii) of this 
section.
    (ii) Application of adjusted basis limitation to divisive 
reorganizations described in sections 355 and 368(a)(1)(D). The 
aggregate amount of money and the fair market value of any other 
property transferred to a creditor that is treated as a distribution 
under paragraph (c)(1) of this section is limited to the amount by 
which the aggregate adjusted basis of the assets transferred by a 
distributing corporation to a controlled corporation in a divisive 
reorganization described in sections 355 and 368(a)(1)(D) exceeds the 
aggregate amount of distributing corporation liabilities assumed by the 
controlled corporation.
    (3) Post-distribution payments received by a distributing 
corporation. Paragraphs (c)(1) and (2) of this section (without regard 
to paragraph (c)(1)(ii) of this section) apply to any post-distribution 
payment received by a distributing corporation only if all the 
following requirements are satisfied:
    (i) Treatment as section 361 consideration. The post-distribution 
payment constitutes section 361 consideration for Federal income tax 
purposes. For purposes of this paragraph (c)(3), a post-distribution 
payment constitutes section 361 consideration for Federal income tax 
purposes (and not, for example, a payment for goods or services 
separate from and, therefore, not pursuant to the plan of 
reorganization for the divisive reorganization) only if all the 
following requirements are satisfied:
    (A) Characterization as section 361 consideration. The post-
distribution payment properly is characterized for Federal income tax 
purposes as consideration that the distributing corporation receives in 
the exchange described in Sec.  1.361-3(a).
    (B) Value not reasonably ascertainable. As of the date of the 
exchange described in Sec.  1.361-3(a), the fair market value of the 
distributing corporation's right to receive the post-distribution 
payment is not reasonably ascertainable.
    (C) Proper accounting. In accordance with the plan of 
reorganization, the distributing corporation properly accounts for the 
post-distribution payment as part of the contribution when the 
distributing corporation receives that payment.
    (ii) Segregated account requirement. The distributing corporation 
deposits the post-distribution payment in a segregated account pursuant 
to the plan of reorganization.
    (iii) Disposition requirement. By the later of 90 days after the 
date on which the distributing corporation receives the post-
distribution payment or the date

[[Page 5276]]

specified in paragraph (c)(1)(ii) of this section, the distributing 
corporation, pursuant to the plan of reorganization--
    (A) Distributes that post-distribution payment to the distributing 
corporation's shareholders; or
    (B) Transfers that post-distribution payment to the distributing 
corporation's creditors in satisfaction of distributing corporation 
debt in a transfer meeting the requirements set forth in Sec.  1.361-5.
    (4) Post-distribution payments received by a controlled 
corporation. For purposes of the adjusted basis limitation set forth in 
paragraph (c)(2)(ii) of this section, any post-distribution payment 
received by the controlled corporation from the distributing 
corporation will increase the aggregate adjusted basis of the assets 
transferred by the distributing corporation to the controlled 
corporation only if all the following requirements are satisfied:
    (i) Characterization as contribution in the reorganization 
exchange. The post-distribution payment properly is characterized for 
Federal income tax purposes as consideration that the controlled 
corporation receives in the exchange described in Sec.  1.361-3(a).
    (ii) Value not reasonably ascertainable. As of the date of the 
exchange described in Sec.  1.361-3(a), the fair market value of the 
controlled corporation's right to receive the post-distribution payment 
is not reasonably ascertainable.
    (iii) Proper accounting. In accordance with the plan of 
reorganization, the controlled corporation properly accounts for the 
post-distribution payment as part of the contribution when the 
controlled corporation receives that payment.
    (d) Money or other property not distributed. If a target 
corporation does not satisfy the requirements set forth in paragraph 
(b) or (c) of this section with respect to an exchange described in 
paragraph (a)(1) of this section, the target corporation recognizes 
gain (if any) from the exchange in an amount that does not exceed the 
sum of--
    (1) The amount of money received but not distributed; and
    (2) The fair market value of other property received but not 
distributed.
    (e) No recognition of loss. A target corporation does not recognize 
any loss on an exchange described in paragraph (a)(1) of this section.
    (f) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples: Distributing 
is a distributing corporation, and Controlled is a controlled 
corporation, in a divisive reorganization; Target is a target 
corporation, and Acquiring is an acquiring corporation, in an 
acquisitive reorganization; all taxpayers are calendar-year taxpayers; 
and for each transaction, a plan of reorganization has been properly 
filed with the IRS pursuant to Sec.  1.368-3(a)(5) that satisfies all 
requirements set forth in Sec.  1.368-4, including identifying all 
parties to the reorganization, identifying all transactions included in 
the plan of reorganization, and describing the intended Federal income 
tax treatment of the transaction.
    (1) Example 1: Acquisitive reorganization--(i) Facts. Pursuant to a 
plan of reorganization for a transaction that qualifies as a 
reorganization described in section 368(a)(1)(C), Target transfers all 
its property to Acquiring in exchange for Acquiring stock and money 
(exchange), and Target distributes the Acquiring stock and money to 
Target's shareholders in complete liquidation of Target.
    (ii) Analysis. Target recognizes no gain on the exchange because 
Target distributes the money received in the exchange to its 
shareholders pursuant to the plan of reorganization. See paragraph 
(b)(1) of this section.
    (2) Example 2: Divisive reorganization with money or other property 
distributed pursuant to plan of reorganization--(i) Facts--(A) In 
general. On June 1, 2025, pursuant to a plan of reorganization for a 
transaction that qualifies as a divisive reorganization, Distributing 
transfers one of its businesses (Business B) to newly formed Controlled 
in exchange for $10,000x of Controlled stock and $10,000x of cash 
(contribution) and distributes all the Controlled stock to 
Distributing's shareholders (distribution). The Business B assets have 
an aggregate adjusted basis of $10,000x. Pursuant to its plan of 
reorganization, Distributing will deposit the $10,000x of cash received 
in the contribution in a segregated account.
    (B) Special distribution. On December 1, 2025, Distributing 
distributes the $10,000x of cash received to Distributing's 
shareholders in a special distribution (special dividend) pursuant to 
the plan of reorganization. A separation and distribution agreement 
filed by Distributing with the U.S. Securities and Exchange Commission 
(SEC), a resolution by Distributing's board of directors, and other 
official records of Distributing collectively evidence a definite 
intent, prior to the first step of the transaction, to have 
Distributing distribute the $10,000x of cash pursuant to the special 
dividend. Specifically, those documents provide that the special 
dividend is in addition to any regularly occurring dividends 
distributed to Distributing's shareholders pursuant to Distributing's 
dividend payment policy (as reflected in documents filed by 
Distributing with the SEC).
    (ii) Analysis. The special dividend satisfies all requirements set 
forth in Sec.  1.368-4(e). Accordingly, the special dividend is 
properly included in the plan of reorganization for the divisive 
reorganization. Distributing recognizes no gain on the contribution 
because, pursuant to the plan of reorganization, Distributing deposits 
the money received in the contribution in a segregated account, and it 
distributes the money received in the contribution to its shareholders 
no later than the end of the 12-month period beginning on the date of 
the contribution. See paragraph (c)(1) of this section.
    (3) Example 3: Ordinary course distribution--(i) Facts. The facts 
are the same as in paragraph (f)(2)(i) of this section (Example 2), 
except that Distributing provides in the separation and distribution 
agreement, or in Distributing's other official records, that 
Distributing will distribute the $10,000x of cash received from 
Controlled to Distributing's shareholders through an ordinary course 
dividend pursuant to Distributing's dividend payment policy (as 
reflected in documents filed by Distributing with the SEC). 
Distributing distributes the cash in an ordinary course dividend on 
November 1, 2025.
    (ii) Analysis. The ordinary course dividend is not properly 
included in the plan of reorganization for the divisive reorganization 
because the dividend does not satisfy the requirements set forth in 
Sec.  1.368-4(e)(2)(i)(B) (that is, the dividend would have occurred 
regardless of the divisive reorganization). Because the $10,000x of 
cash received from Controlled is not distributed to Distributing's 
shareholders pursuant to the plan of reorganization, Distributing 
recognizes gain (but not loss) on the exchange in an amount that does 
not exceed the amount of money received (that is, $10,000x). See 
paragraphs (c)(1), (d), and (e) of this section. The Federal income tax 
consequences of the ordinary course dividend are determined under 
section 301 of the Code.
    (4) Example 4: Special stock repurchase program--(i) Facts. The 
facts are the same as in paragraph (f)(2)(i) of this section (Example 
2), except that, pursuant to the plan of reorganization, and as 
reflected in the official records of Distributing and Controlled, 
Distributing uses the $10,000x of cash received from

[[Page 5277]]

Controlled to fund a special repurchase of Distributing stock (and, 
accordingly, is not part of an existing stock repurchase program 
approved by Distributing's board of directors). The redemptions occur 
on February 1, 2026, and March 1, 2026.
    (ii) Analysis. The analysis is the same as in paragraph (f)(2)(ii) 
of this section (Example 2).
    (5) Example 5: Existing stock repurchase program--(i) Facts. The 
facts are the same as in paragraph (f)(4)(i) of this section (Example 
4), except that Distributing uses the $10,000x of cash received from 
Controlled to fund a repurchase of Distributing stock pursuant to an 
existing stock repurchase program approved by Distributing's board of 
directors.
    (ii) Analysis. The analysis is the same as in paragraph (f)(3)(ii) 
of this section (Example 3). Accordingly, the Federal income tax 
consequences of the ordinary course stock repurchase are determined 
under section 301 or 302 of the Code.
    (6) Example 6: Divisive reorganization with money or other property 
not distributed within the 12-month period--(i) Facts. The facts are 
the same as in paragraph (f)(2)(i)(A) of this section (Example 2), 
except that Distributing distributes the $10,000x of cash received from 
Controlled to Distributing's shareholders on July 1, 2026, and, 
therefore, after the end of the 12-month period beginning on June 1, 
2025.
    (ii) Analysis. Distributing recognizes gain (but not loss) on the 
exchange in an amount that does not exceed the amount of money received 
(that is, $10,000x). See paragraphs (c)(1), (d), and (e) of this 
section.
    (7) Example 7: Post-distribution payments from a distributing 
corporation to a controlled corporation--(i) Facts. The facts are the 
same as in paragraph (f)(2)(i)(A) of this section (Example 2), except 
that Distributing and Controlled enter into a capital contribution 
agreement, which is identified and properly included in the plan of 
reorganization, under which Distributing will make one or more 
transfers of working capital to Controlled after the contribution to 
fund Business B's post-distribution operations. Distributing's 
obligation to make any such transfer, and the amount of any such 
transfer (if required to be made), is subject to certain conditions 
such that, as of the date of the contribution, the fair market value of 
Controlled's right to receive any one or more post-distribution 
payments is not reasonably ascertainable. On September 30, 2025, it is 
determined that Distributing must transfer $200x to Controlled under 
this agreement. Distributing and Controlled both treat the $200x 
payment as part of the contribution.
    (ii) Analysis. The $200x payment is treated as increasing the 
aggregate adjusted basis of the assets transferred by Distributing to 
Controlled in the contribution. See paragraph (c)(4) of this section. 
First, the $200x is a post-distribution payment because the transfer of 
$200x from Distributing to Controlled occurs pursuant to the plan of 
reorganization and after the control distribution date. See Sec.  
1.361-1(b)(42). Based on all facts and circumstances, including because 
the capital contribution agreement is identified and properly included 
in the plan of reorganization, the $200x properly is characterized for 
Federal income tax purposes as consideration that Controlled receives 
in an exchange described in paragraph (a)(1) of this section (that is, 
the contribution). See paragraph (c)(4)(i) of this section. In 
addition, Controlled's right to receive the post-distribution payment 
is not reasonably ascertainable as of the contribution date, and, in 
accordance with the plan of reorganization, Controlled properly 
accounts for the post-distribution payment as part of the contribution 
when Controlled receives that payment. See paragraphs (c)(4)(ii) and 
(iii) of this section.
    (8) Example 8: Post-distribution payment from a controlled 
corporation to a distributing corporation--(i) Facts--(A) In general. 
The facts are the same as in paragraph (f)(7)(i) of this section 
(Example 7), except for the following. Distributing transferred 
$10,000x received from Controlled in the contribution to a qualifying 
creditor in a transfer meeting the requirements set forth in paragraph 
(c)(3) of this section and Sec.  1.361-5. Distributing and Controlled 
also enter into an indemnification agreement whereby Controlled agrees 
to satisfy a contingent liability (Liability) that is associated with 
Business B but that Controlled cannot assume under State law. Under the 
indemnification agreement, Distributing may demand payment from 
Controlled once the amount of the Liability becomes fixed and 
determinable, without regard to whether Distributing has satisfied the 
Liability. The fair market value of Distributing's right to receive any 
such payment, and the amount of any such payment (if required to be 
made), is not reasonably ascertainable at the time of the contribution. 
On November 1, 2026, the Liability becomes fixed and determinable in 
the amount of $300x.
    (B) Payment under indemnification agreement. After November 1, 
2026, Distributing seeks payment from Controlled under the 
indemnification agreement without first satisfying the Liability with 
Distributing's own funds. Upon receiving the $300x payment from 
Controlled, Distributing properly accounts for the payment as section 
361 consideration and deposits the $300x in a segregated account 
pursuant to the plan of reorganization. Not later than 90 days after 
the date on which Distributing receives the $300x from Controlled, 
pursuant to the plan of reorganization, Distributing transfers the 
$300x to a qualifying creditor in satisfaction of Distributing debt in 
a manner that satisfies all requirements set forth in Sec.  1.361-5.
    (ii) Analysis--(A) Post-distribution payment; section 361 
consideration; treatment as distribution to shareholders. The $300x 
that Distributing receives from Controlled is a post-distribution 
payment because that transfer occurs pursuant to the plan of 
reorganization and after the control distribution date. See Sec.  
1.361-1(b)(42). Based on all facts and circumstances, including because 
the indemnification agreement is identified and properly included in 
the plan of reorganization, the $300x payment properly is characterized 
for Federal income tax purposes as consideration that Distributing 
receives in an exchange described in paragraph (a)(1) of this section 
(that is, the contribution). See paragraph (c)(3)(i)(A) of this 
section. In addition, the fair market value of Distributing's right to 
receive the post-distribution payment is not reasonably ascertainable 
as of the contribution date, and, in accordance with the plan of 
reorganization, Distributing properly accounts for the post-
distribution payment as part of the contribution when Distributing 
receives that payment. See paragraphs (c)(3)(i)(B) and (C) of this 
section. Paragraph (c)(2) of this section applies to Distributing's 
receipt and transfer of the $300x payment because the payment 
constitutes section 361 consideration and, pursuant to the plan of 
reorganization, Distributing deposits the payment in a segregated 
account and transfers the $300x to a qualifying creditor in 
satisfaction of Distributing debt in a transfer meeting the 
requirements set forth in Sec.  1.361-5 not later than 90 days after 
the date on which Distributing receives the payment. See paragraph 
(c)(2) of this section. Accordingly, and subject to the adjusted basis 
limitation set forth in

[[Page 5278]]

paragraph (c)(2)(ii) of this section, Distributing would be treated as 
distributing to its shareholders for purposes of paragraph (c)(1) of 
this section the $300x post-distribution payment. See paragraph 
(c)(2)(i) of this section.
    (B) Adjusted basis limitation. The aggregate amount of money and 
the fair market value of any other property that Distributing may 
transfer to a creditor under paragraph (c)(2)(i) of this section that 
is treated as a distribution under paragraph (c)(1) of this section is 
limited to the amount by which the aggregate adjusted basis of the 
Business B assets transferred by Distributing to Controlled in the 
contribution ($10,200x) exceeds the sum of the aggregate amount of 
Distributing liabilities assumed by Controlled ($0), as further reduced 
by the $10,000x that Distributing had transferred to a qualifying 
creditor. See paragraph (c)(2)(ii) of this section. Therefore, 
Distributing has $200x remaining in its adjusted basis limitation 
($10,200x-$10,000x) under paragraph (c)(2)(ii) of this section. As a 
result, $100x of the post-distribution payment ($300x-$200x) is treated 
as money not distributed to Distributing's shareholders for purposes of 
paragraph (c)(1) of this section. See paragraph (c)(2)(i) of this 
section. Therefore, Distributing recognizes $100x of gain (that is, an 
amount that does not exceed the sum of the money received but not 
distributed and the fair market value of other property received but 
not distributed). See paragraph (d) of this section.


Sec.  1.361-4  Distributions of property under section 361(c).

    (a) Distributions of qualified property--(1) Distributions to 
shareholders. A target corporation recognizes no gain or loss on a 
distribution of qualified property received in an exchange described in 
Sec.  1.361-2(a) or Sec.  1.361-3(a) to the target corporation's 
shareholders pursuant to a plan of reorganization.
    (2) Treatment of certain transfers to creditors--(i) Acquisitive 
reorganizations. In an acquisitive reorganization, if a target 
corporation receives qualified property in an exchange described in 
Sec.  1.361-2(a) or Sec.  1.361-3(a), the target corporation is treated 
as distributing the qualified property to its shareholders for purposes 
of paragraph (a)(1) of this section if the target corporation transfers 
that qualified property to a creditor--
    (A) Pursuant to the plan of reorganization; and
    (B) In satisfaction of target corporation debt.
    (ii) Divisive reorganizations. In a divisive reorganization, if a 
distributing corporation receives qualified property in an exchange 
described in Sec.  1.361-2(a) or Sec.  1.361-3(a), the distributing 
corporation is treated as distributing the qualified property to its 
shareholders for purposes of paragraph (a)(1) of this section if the 
distributing corporation transfers that qualified property to a 
creditor--
    (A) Pursuant to a plan of reorganization; and
    (B) In satisfaction of distributing corporation debt in a transfer 
meeting the requirements set forth in Sec.  1.361-5.
    (b) Distributions of appreciated nonqualified property--(1) Deemed 
sale treatment. If a target corporation distributes appreciated 
nonqualified property received in an exchange described in Sec.  1.361-
3(a) to its shareholders pursuant to a plan of reorganization, the 
target corporation recognizes gain as if the target corporation had 
sold that property to its shareholders at the property's fair market 
value.
    (2) Treatment of liabilities. If a target corporation distributes 
appreciated nonqualified property subject to a liability to its 
shareholders pursuant to a plan of reorganization, or if a shareholder 
assumes a liability of the target corporation pursuant to the plan of 
reorganization, the fair market value of that appreciated nonqualified 
property for purposes of paragraph (b)(1) of this section is treated as 
not less than the amount of that liability.
    (c) No recognition of loss. If a target corporation distributes 
property received in an exchange described in described in Sec.  1.361-
2(a) or Sec.  1.361-3(a) to its shareholders pursuant to a plan of 
reorganization, the target corporation does not recognize loss.
    (d) Coordination with other provisions; cross-references. Sections 
311 and 336 through 338 of the Code do not apply to a target 
corporation's distribution of property described in paragraph (a) or 
(b) of this section. See sections 355(a)(3)(B), (d), and (e) of the 
Code for purposes of determining whether a distributing corporation 
recognizes gain on a distribution of controlled corporation stock or 
securities.
    (e) Examples. The following examples illustrate the application of 
the rules of this section.
    (1) Example 1: Distribution of qualified property--(i) Facts. On 
June 1, 2025, a calendar-year distributing corporation (Distributing) 
transfers one of its businesses to a newly formed controlled 
corporation (Controlled) in exchange for Controlled stock 
(contribution). On June 2, 2025, Distributing distributes 80 percent of 
the Controlled stock to Distributing's shareholders on a pro rata basis 
(control distribution). As reflected in the separation and distribution 
agreement between Distributing and Controlled filed by Distributing 
with the U.S. Securities and Exchange Commission, Distributing 
evidences a definite intent to distribute the Controlled stock not 
distributed in the control distribution (retained Controlled stock) in 
2026 pursuant to, and in completion of, the plan of reorganization 
(final distribution; together with the contribution and the control 
distribution, the separation). The retention of the retained Controlled 
stock is a qualifying retention within the meaning of Sec.  1.355-
10(c). Distributing properly files a plan of reorganization with the 
IRS pursuant to Sec.  1.368-3(a)(5) satisfying all requirements set 
forth in Sec.  1.368-4, including identifying Distributing and 
Controlled as parties to the reorganization, determining that the 
contribution and each distribution are properly included in the plan of 
reorganization, and describing the intended Federal income tax 
treatment of the contribution and each distribution. The separation 
qualifies as a divisive reorganization.
    (ii) Analysis. The Controlled stock Distributing receives in the 
contribution is qualified property. See Sec.  1.361-1(b)(43). The 
contribution is an exchange described in Sec.  1.361-2(a), because 
Controlled is a party to the reorganization, Distributing receives 
solely Controlled stock in the contribution, and the contribution and 
each distribution of Controlled stock occurs pursuant to the plan of 
reorganization. Consequently, Distributing recognizes no gain or loss 
on the control distribution or the final distribution. See paragraph 
(a)(1) of this section.
    (2) Example 2: Distribution timing requirement--(i) Facts. The 
facts are the same as in paragraph (e)(1)(i) of this section (Example 
1), except that the plan of reorganization evidences a definite intent 
to distribute the retained Controlled stock three years after the date 
of the first step of the plan of reorganization.
    (ii) Analysis. The 24-month presumption for the expeditious 
prosecution of the plan of reorganization requirement is not satisfied. 
See Sec.  1.368-4(d)(3)(i)(B). However, if Distributing demonstrates, 
based on all facts and circumstances, that Distributing has transferred 
the retained Controlled stock to its shareholders as expeditiously as

[[Page 5279]]

practicable in completion of the plan of reorganization, Distributing 
recognizes no gain or loss on the control distribution or final 
distribution. See Sec.  1.368-4(d)(3)(i)(A) and paragraph (a)(1) of 
this section.
    (3) Example 3: Distribution of nonqualified property--(i) Facts. 
Pursuant to a plan of reorganization for a transaction that qualifies 
as a reorganization under section 368(a)(1)(C), a target corporation 
(Target) transfers all its property other than an appreciated asset 
(Asset) to an acquiring corporation (Acquiring) solely in exchange for 
Acquiring voting stock, which Target distributes, along with Asset, to 
its shareholders in complete liquidation of Target. Asset has a fair 
market value of $100x and an adjusted basis of $50x and is subject to a 
$130x nonrecourse liability. Target properly files a plan of 
reorganization with the IRS pursuant to Sec.  1.368-3(a)(5) satisfying 
all requirements set forth in Sec.  1.368-4, including identifying 
Target and Acquiring as parties to the reorganization, determining that 
the distribution of Asset is properly included in the plan of 
reorganization, and describing the intended Federal income tax 
treatment of the reorganization.
    (ii) Analysis--(A) In general. The Acquiring stock Target receives 
in the exchange is qualified property. See Sec.  1.361-1(b)(43). The 
exchange of Target assets for Acquiring stock is described in Sec.  
1.361-2(a), because the exchange occurs pursuant to a plan of 
reorganization, Target and Acquiring are parties to the reorganization, 
and Target receives solely Acquiring stock in the exchange. 
Accordingly, Target recognizes no gain on the distribution of Acquiring 
stock to Target shareholders. See paragraph (a)(1) of this section.
    (B) Asset distribution. Asset is appreciated nonqualified property. 
See Sec.  1.361-1(b)(4). Accordingly, Target recognizes gain on the 
distribution of Asset to its shareholders pursuant to the plan of 
reorganization as if Target had sold Asset to its shareholders at 
Asset's fair market value. See paragraph (b)(1) of this section. 
Because Target distributed Asset to its shareholders subject to the 
$130 nonrecourse liability, the fair market value of Asset is treated 
as not less than the amount of that liability. See paragraph (b)(2) of 
this section. Accordingly, the amount of gain Target recognizes on the 
distribution is $80x ($130x fair market value - $50x adjusted basis).


Sec.  1.361-5  Transfers to creditors of distributing corporation in 
divisive reorganizations under section 361(b)(3) and (c)(3).

    (a) General rule. The transfer of section 361 consideration by a 
distributing corporation to a creditor of the distributing corporation 
under Sec.  1.361-3(c)(2) or 1.361-4(a)(2)(ii) (as appropriate) in a 
divisive reorganization is not treated as a distribution by the 
distributing corporation to its shareholders pursuant to the plan of 
reorganization unless the transfer is--
    (1) To a qualifying creditor of the distributing corporation, as 
determined under paragraph (b) of this section;
    (2) In satisfaction of eligible distributing corporation debt, as 
determined under paragraph (c) of this section;
    (3) In an amount not greater than the maximum amount of 
distributing corporation debt, as determined under paragraph (d) of 
this section; and
    (4) Part of a qualifying debt elimination transaction, as 
determined under paragraph (e) of this section.
    (b) Qualifying creditor--(1) General status as a creditor with 
regard to distributing corporation debt. Each creditor to which the 
distributing corporation transfers section 361 consideration must be a 
creditor (qualifying creditor) that--
    (i) Holds historical distributing corporation debt, qualifying 
trade payables, or direct issuance debt; and
    (ii) Satisfies the requirements set forth in paragraph (b)(2) of 
this section.
    (2) Related-creditor prohibition--(i) General rule. Except as 
provided in paragraph (b)(2)(ii) of this section, the following persons 
are not qualifying creditors of the distributing corporation (non-
qualifying creditors):
    (A) A distributing corporation related person.
    (B) A controlled corporation related person.
    (C) A related person with respect to a distributing corporation 
related person.
    (D) A related person with respect to a controlled corporation 
related person.
    (ii) Exception for certain distributing corporation related 
persons. A distributing corporation related person or a related person 
with respect to a distributing corporation related person (each as 
determined in accordance with paragraph (b)(2)(iii) of this section) is 
a qualifying creditor of the distributing corporation only if the 
following requirements are satisfied:
    (A) Transfer to unrelated ultimate creditor--(1) Money or other 
property. No later than the end of the 12-month period beginning on the 
date the distributing corporation receives the money or other property, 
the section 361 consideration composed of money or other property is 
transferred to an unrelated ultimate creditor pursuant to the plan of 
reorganization to satisfy debt owed by the distributing corporation 
related person or the related person with regard to a distributing 
corporation related person, respectively, to the unrelated ultimate 
creditor.
    (2) Qualified property. The section 361 consideration composed of 
qualified property is transferred pursuant to the plan of 
reorganization to an unrelated ultimate creditor to satisfy debt owed 
by the distributing corporation related person or the related person 
with regard to a distributing corporation related person, respectively, 
to the unrelated ultimate creditor. For rules regarding the expeditious 
completion of the plan of reorganization, see Sec.  1.368-4(d)(3).
    (3) Intermediate transfers. For purposes of paragraph 
(b)(2)(ii)(A)(1) and (2) of this section, one or more intermediate 
transfers of section 361 consideration between or among distributing 
corporation related persons or related persons with regard to 
distributing corporation related persons to satisfy debts (including 
the initial distributing corporation debt) are permissible if those 
intermediate transfers culminate in a transfer of section 361 
consideration to an unrelated ultimate creditor.
    (B) Debt in existence as of earliest applicable date--(1) In 
general. Except as provided in paragraph (b)(2)(ii)(B)(2) of this 
section, all debt for which section 361 consideration is exchanged 
pursuant to the transfers described in paragraph (b)(2)(ii)(A) of this 
section is in existence as of the earliest applicable date.
    (2) Distributing corporation debt directly held by internal 
creditor. Distributing corporation debt held directly by a distributing 
corporation related person or a related person with regard to a 
distributing corporation related person qualifies as historical 
distributing corporation debt described in paragraph (c)(2)(i) of this 
section.
    (C) Transactions, debts, and creditors identified in plan of 
reorganization. Each transaction (including each intermediate and 
unrelated ultimate creditor transfer), creditor (including the 
unrelated ultimate creditor), and debt referenced in paragraph 
(b)(2)(ii)(A) of this section is identified and described in the plan 
of reorganization with regard to the divisive reorganization.
    (iii) Determination of related-person status. For purposes of 
paragraph (b)(2) of this section, the status of a person as a 
distributing corporation related person

[[Page 5280]]

or a controlled related person, or as a related person with regard to 
any distributing corporation related person or as a related person with 
respect to any controlled corporation related person, is determined as 
of the date on which that person receives section 361 consideration in 
a transfer or series or transfers described in paragraph (b)(2)(ii)(A) 
of this section.
    (c) Eligible distributing corporation debt--(1) Overview. 
Distributing corporation debt is not eligible to be satisfied with 
section 361 consideration under paragraph (a) of this section unless 
that debt qualifies under paragraph (c)(2) of this section.
    (2) Qualification as eligible distributing corporation debt--(i) 
Historical distributing corporation debt. Historical distributing 
corporation debt is eligible to be satisfied with section 361 
consideration under paragraph (c)(1) of this section. Except as 
provided in paragraph (c)(2)(ii) or (iii) of this section, for a 
distributing corporation debt to qualify as historical distributing 
corporation debt--
    (A) The distributing corporation must have incurred the 
distributing corporation debt before the earliest applicable date;
    (B) That debt must have an original term that ends after the date 
of the exchange described in Sec.  1.361-2(a) or 1.361-3(a); and
    (C) That debt must be identified in the plan of reorganization or 
original plan of reorganization (if amended).
    (ii) Refinancing exception for historical distributing corporation 
debt. Distributing corporation debt incurred by the distributing 
corporation after the earliest applicable date is treated as historical 
distributing corporation debt only if--
    (A) The distributing corporation debt is--
    (1) A refinancing of historical distributing corporation debt 
(refinanced historical distributing corporation debt); or
    (2) A refinancing of refinanced historical distributing corporation 
debt (that is, the debt is traced directly through one or more 
refinancings to debt that qualifies as historical distributing 
corporation debt pursuant to this paragraph (c)(2)(ii);
    (B) The incurrence of the refinanced historical distributing 
corporation debt described in paragraph (c)(2)(ii)(A) of this section 
is not part of a plan to incur debt in addition to historical 
distributing corporation debt determined under paragraph (c)(2)(i) of 
this section (or an amount of debt in addition to the amount of 
historical distributing corporation debt determined under paragraph (d) 
of this section, without regard to paragraph (d)(2)(iv) of this 
section) in anticipation of the divisive reorganization (for example, 
the incurrence of the refinanced historical distributing corporation 
debt would have occurred without regard to the divisive 
reorganization);
    (C) The distributing corporation engages in a qualifying debt 
elimination transaction solely under paragraph (e)(3) or (4) of this 
section to eliminate that refinanced historical distributing 
corporation debt; and
    (D) The qualifying debt elimination transaction described in 
paragraph (c)(2)(ii)(C) of this section is described and identified in 
the plan of reorganization or original plan of reorganization (if 
amended) for the divisive reorganization.
    (iii) Revolving credit agreements. A revolving credit agreement to 
which the distributing corporation is a debtor qualifies as historical 
distributing corporation debt only if--
    (A) The distributing corporation entered into the agreement before 
the earliest applicable date;
    (B) That agreement does not expire until after the date of the 
exchange described in Sec.  1.361-2(a) or 1.361-3(a); and
    (C) That agreement is identified in the plan of reorganization or 
original plan of reorganization (if amended).
    (iv) Qualifying trade payables. Trade payables of the distributing 
corporation that meet the following requirements are eligible to be 
satisfied with section 361 consideration under paragraph (c)(1) of this 
section:
    (A) The trade payables are described in a plan of reorganization or 
original plan of reorganization (if amended).
    (B) The trade payables were incurred in the ordinary course of 
business of the distributing corporation.
    (C) The satisfaction such trade payables is necessary--
    (1) To ensure the allocation to the controlled corporation of all 
liabilities properly associated with the business assets transferred to 
that corporation; and
    (2) To result in the controlled corporation being allocated 
liabilities in an amount that properly relates to its business 
operations, the earnings of which will be used to properly satisfy 
those liabilities.
    (v) Direct issuance debt. Direct issuance debt incurred as part of 
a direct issuance transaction satisfying the requirements of paragraph 
(e)(4) of this section is eligible to be satisfied with section 361 
consideration under paragraph (c)(1) of this section.
    (3) Determination of amount of distributing corporation debt--(i) 
Purpose. The rules in this paragraph (c)(3) apply to determine the 
aggregate amount of distributing corporation debt. For rules to 
determine the maximum amount of distributing corporation debt that can 
be satisfied with section 361 consideration under paragraph (a) of this 
section, see paragraph (d) of this section.
    (ii) Aggregate amount of distributing corporation debt. The 
aggregate amount of distributing corporation debt includes solely the 
amounts described in paragraphs (c)(3)(ii)(A) through (E) of this 
section, as applicable, taking into account any reduction required by 
paragraph (c)(3)(iii) of this section.
    (A) Historical distributing corporation debt. The aggregate amount 
of historical distributing corporation debt equals the aggregate 
remaining principal amount, as of the earliest applicable date, of all 
historical distributing corporation debt other than historical 
distributing corporation debt that is eliminated as part of a 
qualifying direct issuance transaction under paragraph (e)(4) of this 
section.
    (B) Refinanced distributing corporation debt. If the distributing 
corporation relies on the exception set forth in paragraph (c)(2)(ii) 
of this section (that is, the refinancing exception for historical 
distributing corporation debt) with regard to any distributing 
corporation debt, the amount of that distributing corporation debt 
equals the lesser of--
    (1) The original principal amount of the refinanced distributing 
corporation debt; and
    (2) The principal amount of the original historical distributing 
corporation debt (that is, the distributing corporation debt to which 
the refinanced distributing corporation debt is traced) as of the 
earliest applicable date.
    (C) Revolving credit agreements. With regard to a revolving credit 
agreement that satisfies the requirements set forth in paragraph 
(c)(2)(iii) of this section, the amount of that revolving credit 
agreement equals the lesser of--
    (1) The balance under that agreement as of the earliest applicable 
date (and not the maximum amount that could be incurred by the 
distributing corporation under that agreement); and
    (2) The lowest balance under that agreement beginning on the 
earliest applicable date and ending on the control distribution date.
    (D) Qualifying trade payables. With regard to trade payables of the 
distributing corporation that satisfy the requirements set forth in 
paragraph

[[Page 5281]]

(c)(2)(iv) of this section, the amount of those payables equals the 
aggregate amount of those payables on the date of the exchange 
described in Sec.  1.361-2(a) or 1.361-3(a).
    (E) Direct issuance debt. With regard to direct issuance debt that 
satisfies the requirements set forth in paragraph (c)(2)(v) of this 
section, the amount of that debt equals the aggregate principal amount 
of that debt on the date of the exchange described in Sec.  1.361-2(a) 
or 1.361-3(a).
    (iii) Offsetting debts taken into account. The aggregate amount of 
distributing corporation debt determined under paragraph (c)(3)(ii) of 
this section must be reduced by the aggregate principal amount (or the 
balance, in the case of a revolving credit agreement) of any debt for 
which--
    (A) The distributing corporation is a creditor; and
    (B) The debtor of that debt is a creditor with respect to 
distributing corporation debt described in paragraph (c)(3)(ii) of this 
section.
    (d) Maximum amount of distributing corporation debt--(1) General 
calculation. The maximum amount of distributing corporation debt that 
can be satisfied with section 361 consideration under paragraph (a) of 
this section equals the amount obtained by subtracting the aggregate 
amount of distributing corporation debt that the controlled corporation 
assumes pursuant to the plan of reorganization from the lesser of--
    (i) The aggregate amount of distributing corporation debt (as 
determined under paragraph (c)(3) of this section); and
    (ii) The aggregate amount of distributing corporation debt 
determined under the eight-quarterly-average test (as set forth in 
paragraph (d)(2) of this section).
    (2) Eight-quarterly-average test--(i) Determination. In accordance 
with paragraphs (d)(2)(ii) and (iii) of this section, the aggregate 
amount of distributing corporation debt under the eight-quarterly-
average test, measured as of the close of each of the eight fiscal 
quarters that end immediately before the earliest applicable date, 
equals the average of the amount of distributing corporation debt owed 
to persons other than distributing corporation related persons.
    (ii) Calculation of distributing corporation debt at the close of 
each quarter. The methodology for determining the maximum amount of 
distributing corporation debt under paragraph (c)(3) of this section 
must be used to determine the amount of distributing corporation debt 
at the close of each quarter for purposes of paragraph (d)(2)(i) of 
this section.
    (iii) Distributing corporation debt held by distributing 
corporation related person. If the distributing corporation relies on 
the exception set forth in paragraph (b)(2)(ii) of this section (that 
is, the related-creditor exception), the amount determined under 
paragraph (d)(2)(i) of this section includes an amount equal to the 
least of--
    (A) The amount of distributing corporation debt directly held by 
distributing corporation related persons or related persons with 
respect to distributing corporation related persons (each, a related 
person);
    (B) The amount of debt of a related person (related person debt) 
held by any other related person; and
    (C) The amount of related person debt held by the unrelated 
ultimate creditor.
    (e) Qualifying debt elimination transactions--(1) Overview. A 
transaction that satisfies the requirements set forth in this paragraph 
(e) qualifies as a qualifying debt elimination transaction for purposes 
of paragraph (a) of this section.
    (2) Qualifying original creditor exchanges. The satisfaction of 
distributing corporation debt with section 361 consideration in an 
exchange not described in paragraph (e)(3) or (4) of this section 
(original creditor exchange) qualifies as a qualifying debt elimination 
transaction if all applicable requirements set forth in paragraphs (b) 
through (d) of this section (without regard to paragraph (c)(2)(ii)(A) 
of this section) are satisfied.
    (3) Qualifying intermediated exchanges. An intermediated exchange 
qualifies as a qualifying debt elimination transaction if all 
applicable requirements set forth in paragraphs (b) through (d) and 
(e)(3)(i) through (vi) of this section are satisfied.
    (i) Prohibition on intermediary benefits--(A) In general. Except as 
provided in paragraph (e)(3)(i)(B) of this section, no holder of a 
distributing corporation debt satisfied with section 361 consideration 
holds the distributing corporation debt for the benefit of--
    (1) The distributing corporation;
    (2) The controlled corporation;
    (3) A distributing corporation related person; or
    (4) A controlled corporation related person.
    (B) Exception. The prohibition described in paragraph (e)(3)(i)(A) 
of this section does not apply to the collateral benefit received by a 
distributing corporation, or a distributing corporation related person, 
from the intermediary's facilitation of the transfer of section 361 
consideration in satisfaction of historical distributing corporation 
debt.
    (ii) Prohibition on acquiring debt from distributing corporation. 
The intermediary does not acquire historical distributing corporation 
debt satisfied with section 361 consideration from the distributing 
corporation, the controlled corporation, or any distributing 
corporation related person or controlled corporation related person.
    (iii) Arm's-length bargaining required. Each exchange of section 
361 consideration for historical distributing corporation debt between 
the distributing corporation and the intermediary is effectuated based 
on terms and conditions arrived at by the parties bargaining at arm's 
length.
    (iv) Prohibition on profit-sharing or limitation. None of the 
distributing corporation, the controlled corporation, or any 
distributing corporation related person or controlled corporation 
related person--
    (A) Participates in any profit gained by the intermediary upon an 
exchange of section 361 consideration; or
    (B) Limits by agreement or other arrangement any profit described 
in paragraph (e)(3)(iv)(A) of this section.
    (v) Independence requirement--(A) General rule. The intermediary 
acts for its own account with regard to all components of the 
intermediated exchange.
    (B) Risk of loss. The intermediary bears the risk of loss with 
respect to--
    (1) The historical distributing corporation debt; and
    (2) Any subsequent sale or other disposition of section 361 
consideration transferred to the intermediary to satisfy the historical 
distributing corporation debt.
    (C) Prohibition regarding variable pricing and similar agreements. 
The requirement set forth in paragraph (e)(3)(v)(B) of this section is 
not satisfied if the intermediary enters into a variable pricing 
agreement or similar arrangement with the distributing corporation (or 
a controlled corporation, distributing corporation related person, or 
controlled corporation related person) with regard to any section 361 
consideration, including--
    (1) True-up payments;
    (2) Forward exchange agreements; and
    (3) Any similar agreement or arrangement.
    (vi) Minimum temporal requirement. The intermediary holds the 
historical distributing corporation debt for a period of not less than 
30 days ending on the control distribution date.
    (4) Qualifying direct issuance transactions--(i) Overview--(A) In 
general. To qualify as a qualifying debt

[[Page 5282]]

elimination transaction, a direct issuance transaction must be 
determined to comprise a transfer by the distributing corporation of 
section 361 consideration to the creditor in exchange for the 
satisfaction of the distributing corporation debt held by the creditor 
(direct issuance debt), and not a sale by the distributing corporation 
of section 361 consideration to the creditor for the proceeds of that 
direct issuance debt, for Federal income tax purposes.
    (B) Application of Code and general principles of Federal income 
tax law. The determination under paragraph (e)(4)(i)(A) of this section 
is made based on all relevant provisions of the Code and general 
principles of Federal income tax law, including the step transaction 
doctrine. Specifically, the substance of the direct issuance 
transaction must be determined under all relevant provisions of the 
Code and general principles of Federal income tax law before the 
requirements under section 361 can be applied to determine whether the 
transaction qualifies for nonrecognition treatment under that section.
    (ii) Facts-and-circumstances test--(A) In general. The 
determination of whether a direct issuance transaction qualifies as an 
exchange under section 361 (and not as a sale under section 1001) is 
made based on the factors specified in paragraph (e)(4)(ii)(B) of this 
section, each of which provides evidence of qualification or non-
qualification as an exchange under section 361 as set forth in 
paragraph (e)(4)(ii)(B) of this section, unless the transaction 
satisfies the safe harbor under paragraph (e)(4)(iii) of this section. 
The strength of the evidence provided by those factors is determined 
based on an analysis of all relevant facts and circumstances.
    (B) Factors--(1) Exchange part of prearranged, integrated plan--(i) 
Substantial evidence of non-qualification. An exchange of section 361 
consideration by the distributing corporation with the creditor 
pursuant to an arrangement that comprises part of a prearranged, 
integrated plan is substantial evidence of non-qualification.
    (ii) Evidence of qualification. An exchange of section 361 
consideration by the distributing corporation with the creditor that is 
not pursuant to an arrangement that comprises part of a prearranged, 
integrated plan is evidence of qualification.
    (2) Specified agency and substance-over-form requirements--(i) 
Evidence of non-qualification. The failure to satisfy one or more 
requirements set forth in paragraphs (e)(4)(iii)(C) through (F) of this 
section is evidence of non-qualification.
    (ii) Substantial evidence of non-qualification. Substantial failure 
to satisfy any of the requirements set forth in paragraphs 
(e)(4)(iii)(C) through (F) of this section, as determined based on all 
relevant facts and circumstances, or any failure to satisfy a 
substantial number of those requirements, is substantial evidence of 
non-qualification.
    (iii) Substantial evidence of qualification. The satisfaction of 
all requirements set forth in paragraphs (e)(4)(iii)(C) through (F) of 
this section is substantial evidence of qualification.
    (3) Temporal proximity--(i) Evidence of non-qualification. The fact 
that the creditor holds the refinanced historical distributing 
corporation debt for a period of less than 30 days ending on the 
control distribution date is evidence of non-qualification.
    (ii) Evidence of qualification. The fact that the creditor holds 
the refinanced historical distributing corporation debt for a period of 
at least 30 days ending on the control distribution date is evidence of 
qualification.
    (4) Dominion or control of cash proceeds of refinanced distributing 
corporation debt--(i) Substantial evidence of non-qualification. The 
distributing corporation's legal or practical dominion or control over 
any proceeds of the refinanced historical distributing corporation debt 
(as determined in accordance with Sec.  1.357-2(e)(2)) is substantial 
evidence of non-qualification.
    (ii) Substantial evidence of qualification. The distributing 
corporation's lack of legal or practical dominion or control over any 
proceeds of the refinanced historical distributing corporation debt (as 
determined in accordance with Sec.  1.357-2(e)(2)) is substantial 
evidence of qualification.
    (5) Purpose of avoiding requirements or limitations of section 361. 
The distributing corporation's issuance of the refinanced historical 
distributing corporation debt with a principal purpose of avoiding any 
of the requirements or limitations of section 361 is evidence of non-
qualification.
    (iii) Safe harbor for direct issuance transactions. A direct 
issuance transaction is treated as a qualifying debt elimination 
transaction under this paragraph (e)(4)(iii) only if all the following 
requirements are satisfied:
    (A) The distributing corporation does not have, at any time, legal 
or practical dominion or control over any proceeds of the refinanced 
historical distributing corporation debt, as determined in accordance 
with Sec.  1.357-2(e)(2).
    (B) The creditor holds the refinanced historical distributing 
corporation debt for a period of not less than 30 days ending on the 
control distribution date.
    (C) Each exchange of section 361 consideration for refinanced 
historical distributing corporation debt between the distributing 
corporation and the creditor is effectuated based on terms and 
conditions arrived at by the parties bargaining at arm's length.
    (D) None of the distributing corporation, the controlled 
corporation, or any distributing corporation related person or 
controlled corporation related person--
    (1) Participates in any profit gained by the creditor upon an 
exchange of section 361 consideration; or
    (2) Limits by agreement or other arrangement any profit of the 
creditor described in paragraph (e)(4)(iii)(D)(1) of this section.
    (E) The creditor acts for its own account with regard to all 
components of the direct issuance transaction.
    (F) The creditor bears the risk of loss with respect to--
    (1) The refinanced historical distributing corporation debt; and
    (2) Any subsequent sale or other disposition of section 361 
consideration transferred to the creditor to satisfy the refinanced 
historical distributing corporation debt.
    (iv) Prohibition regarding variable pricing and similar agreements. 
The requirement set forth in paragraph (e)(4)(iii)(F) of this section 
is not satisfied if the creditor enters into a variable pricing 
agreement or similar arrangement with the distributing corporation (or 
a controlled corporation, distributing corporation related person, or 
controlled corporation related person) with regard to any section 361 
consideration, including--
    (A) True-up payments;
    (B) Forward exchange agreements; and
    (C) Any similar agreement or arrangement.
    (f) Transitorily eliminated eligible distributing corporation 
debt--(1) Overview. The amount of section 361 consideration treated as 
transferred by a distributing corporation to a creditor of the 
distributing corporation in a qualifying debt elimination transaction 
(and, therefore, treated as distributed to shareholders pursuant to the 
plan of reorganization under section 361(b)(3) or (c)(3), as 
appropriate) is reduced by the amount of eligible distributing 
corporation debt that is transitorily eliminated pursuant to paragraph 
(f)(2)(i) of this section.
    (2) Transitory elimination--(i) General rule. Unless the exception

[[Page 5283]]

described in paragraph (f)(2)(iii) of this section applies, a 
distributing corporation is treated as transitorily eliminating an 
amount of eligible distributing corporation debt equal to the amount of 
such debt that the distributing corporation or a distributing 
corporation related person (determined immediately after the earliest 
applicable date) replaces after the earliest applicable date, directly 
or indirectly, with borrowing that the distributing corporation or any 
distributing corporation related person (determined immediately after 
the earliest applicable date) expects or is committed to, directly or 
indirectly, before that date.
    (ii) Borrowings not in the ordinary course. For purposes of 
paragraph (f)(2)(i) of this section, a borrowing is not treated as 
expected if the borrowing results from--
    (A) An event unrelated to the divisive reorganization and not in 
the ordinary course of business of the distributing corporation; and
    (B) Changed circumstances that were not expected prior to the 
control distribution date (therefore, the borrowing is unrelated to, 
and demonstrably independent of, the divisive reorganization or any 
transaction related to the divisive reorganization).
    (iii) Borrowings in the ordinary course. A borrowing described in 
paragraph (f)(2)(i) of this section is not treated as transitorily 
eliminating eligible distributing corporation debt if the borrowing--
    (A) Is incurred in the ordinary course of business of the 
distributing corporation or distributing corporation related person (as 
appropriate); and
    (B) Would have been incurred by the distributing corporation or 
distributing corporation related person (as appropriate) without regard 
to the divisive reorganization or any transaction related to the 
divisive reorganization (that is, the borrowing is unrelated to, and 
demonstrably independent of, any such transaction).
    (g) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples, the 
following facts apply: A distributing corporation (Distributing) 
transfers one of its businesses to a newly formed controlled 
corporation (Controlled) in exchange for Controlled stock and other 
section 361 consideration (contribution); Distributing distributes all 
the Controlled stock to its shareholders on a pro rata basis 
(distribution); Distributing transfers the other section 361 
consideration to holders of Distributing debt (together with the 
contribution and the distribution, the separation); Distributing 
properly files a plan of reorganization for the separation with the IRS 
pursuant to Sec.  1.368-3(a)(5) that satisfies all requirements set 
forth in Sec.  1.368-4; the separation qualifies as a divisive 
reorganization under sections 355 and 368(a)(1)(D); and the aggregate 
amount of adjusted basis of the assets transferred in the contribution 
exceeds the sum of the aggregate amount of liabilities assumed by 
Controlled plus the amount of money and the fair market value of any 
other property received by Distributing. Unless otherwise provided, no 
Distributing debt was transitorily eliminated within the meaning of 
paragraph (f) of this section.
    (1) Example 1: Transfer of money or other property to related 
creditor--(i) Facts. The section 361 consideration received by 
Distributing in the contribution consists of Controlled stock and $100x 
of cash. Distributing has an outstanding debt of $100x owed to a wholly 
owned subsidiary that is a Distributing related person (Subsidiary, and 
such debt, Internal Debt). Subsidiary has an outstanding debt of $100x 
owed to an unrelated ultimate creditor (External Debt). The External 
Debt was incurred prior to the earliest applicable date. The Internal 
Debt qualifies as historical Distributing debt described in paragraph 
(c)(2)(i) of this section. The maximum amount of Distributing debt that 
can be satisfied with section 361 consideration, as determined under 
paragraph (d) of this section, is $100x. Pursuant to the plan of 
reorganization, Distributing deposits the $100x of cash received in the 
contribution in a segregated account. Subsequently, Distributing, 
pursuant to the plan of reorganization, transfers the $100x of cash to 
Subsidiary in satisfaction of the Internal Debt (which Subsidary 
deposits into a segregated account), and Subsidiary transfers the $100x 
of cash to the unrelated ultimate creditor in satisfaction of the 
External Debt. The transfers from Distributing to Subsidiary, and from 
Subsidiary to the unrelated ultimate creditor, occur no later than the 
end of the 12-month period beginning on the date that Distributing 
receives the $100x of cash from Controlled. Each transaction, creditor 
(Subsidiary and unrelated ultimate creditor), and debt (Internal Debt 
and External Debt) is identified and described in the plan of 
reorganization with regard to the separation.
    (ii) Analysis. Distributing's transfer of the $100x of cash to 
Subsidiary satisfies all requirements under this section and Sec.  
1.361-3(c)(2)(i) to be treated as a distribution to Distributing's 
shareholders pursuant to the plan of reorganization for purposes of 
Sec.  1.361-3(c)(1). See paragraph (a) of this section. First, each of 
Distributing and Subsidiary deposits the $100x of cash they received 
into a segregated account. See Sec.  1.361-3(c)(2)(i)(A). Second, 
Distributing's transfer of the $100x of cash to Subsidiary is a 
transfer to a qualifying creditor because, pursuant to the plan of 
reorganization, Subsidiary transfers the $100x of cash to an unrelated 
ultimate creditor by no later than the end of the 12-month period 
beginning on the date Distributing receives the $100x of cash from 
Controlled (see paragraph (b)(2)(ii)(A)(1) of this section), the 
Internal Debt qualifies as historical distributing corporation debt and 
therefore is eligible distributing corporation debt, the External Debt 
is in existence as of the earliest applicable date (see paragraphs 
(a)(2) and (b)(2)(ii)(B) of this section), and each transfer of the 
$100x provided by Controlled, each of the Internal Debt and External 
Debt, and each of Subsidiary and the unrelated ultimate creditor, is 
identified and described in the plan of reorganization (see paragraph 
(b)(2)(ii)(C) of this section). Second, the amount of historical 
distributing corporation debt satisfied by Distributing (that is, 
$100x) does not exceed the maximum amount of distributing corporation 
debt determined under paragraph (d) of this section (that is, $100x). 
See paragraph (a)(3) of this section. Lastly, the transfer of the $100x 
of cash by Distributing to Subsidiary in satisfaction of the Internal 
Debt is a qualifying original creditor exchange under paragraph (e)(2) 
of this section. See paragraph (a)(4) of this section.
    (2) Example 2: Refinancing of historical distributing corporation 
debt--(i) Facts. The section 361 consideration received by Distributing 
in the contribution consists of Controlled stock and $100x of cash. 
Distributing has an outstanding $100x debt owed to an unrelated 
creditor that is a qualifying creditor (Distributing debt). The 
Distributing debt was incurred before the earliest applicable date and 
has an original term that ends after the date of the contribution. This 
debt was identified in the plan of reorganization. Before the date of 
the contribution, but after the earliest applicable date, Distributing 
refinances the Distributing debt with a bank that is a qualifying 
creditor (refinanced Distributing debt). The incurrence of the 
refinanced Distributing debt is not part of a plan to incur additional 
debt

[[Page 5284]]

prohibited by paragraph (c)(2)(ii)(B) of this section, because 
Distributing needed to refinance the Distributing debt in response to 
an identifiable, material, and unexpected delay in the date of the 
contribution. Thereafter, Distributing satisfies the refinanced 
Distributing debt through an intermediated exchange that is a 
qualifying debt elimination transaction under paragraph (e)(3) of this 
section (Distributing intermediated exchange). The Distributing debt 
refinancing and the Distributing intermediated exchange are described 
and identified in the amended plan of reorganization for the 
separation.
    (ii) Analysis. The refinanced Distributing debt is treated as 
historical distributing corporation debt because it satisfies the 
requirements for the refinancing exception set forth in paragraph 
(c)(2)(ii) of this section. First, the refinanced Distributing debt is 
a refinancing of historical distributing corporation debt (that is, the 
original Distributing debt). See paragraph (c)(2)(ii)(A)(1) of this 
section. Second, Distributing did not refinance the Distributing debt 
as part of a plan to incur additional debt prohibited by paragraph 
(c)(2)(ii)(B) of this section. Third, the refinanced Distributing debt 
was eliminated by Distributing through a qualifying debt elimination 
transaction under paragraph (e)(3) of this section. See paragraph 
(c)(2)(ii)(C) of this section. Lastly, the qualifying debt elimination 
transaction and the refinancing of the Distributing debt are described 
and identified in the amended plan of reorganization for the 
separation. See paragraph (c)(2)(ii)(D) of this section and proposed 
Sec.  1.368-4(d)(1)(iv). Accordingly, the refinanced Distributing debt 
is eligible to be satisfied with section 361 consideration under 
paragraph (a) of this section. See paragraph (c)(1) of this section.
    (3) Example 3: Eight-quarterly-average test--(i) Facts. The section 
361 consideration received by Distributing in the contribution consists 
of Controlled stock and $100x of cash. As of the earliest applicable 
date (July 10, 2025), Distributing has outstanding debt of $180x owed 
to an unrelated creditor that is a qualifying creditor (Distributing 
debt). The $180x of Distributing debt consists of three loans: a $100x 
loan incurred in the eighth fiscal quarter that ended immediately 
before the earliest applicable date (September 30, 2023); a $60x loan 
incurred in the first fiscal quarter that ended immediately before the 
earliest applicable date (June 30, 2025); and a $20x loan incurred in 
the first fiscal quarter that ended immediately before the earliest 
applicable date (June 30, 2025). The three loans that comprise the 
$180x of Distributing debt have an original term that ends after the 
date of the contribution, as identified in the plan of reorganization. 
Controlled assumes the $20x loan in the contribution.
    (ii) Analysis. All $180x of the Distributing debt qualifies as 
historical Distributing debt, and therefore eligible Distributing debt, 
because Distributing incurred each of the debts before the earliest 
applicable date and each of the debts has an original term that ends 
after the date of the contribution and is identified in the plan of 
reorganization. See paragraph (c)(2)(i) of this section. However, the 
maximum amount of eligible Distributing debt that Distributing can 
satisfy with section 361 consideration is limited under paragraphs 
(c)(3) and (d) of this section. The aggregate amount of Distributing 
debt is equal to $180x (that is, the remaining principal amount of all 
historical Distributing debt as of the earliest applicable date). See 
paragraph (c)(3)(ii)(A) of this section. The aggregate amount of 
Distributing debt determined under the eight-quarterly-average test is 
equal to $110x (that is, the eight quarterly average of $880x--the 
$180x of Distributing debt outstanding at the close of the first fiscal 
quarter ending immediately before the earliest applicable date and the 
$100x of Distributing debt outstanding at the close of each of the 
preceding seven fiscal quarters ((($180x x 1) + ($100x x 7))/8 = 
$110x)). See paragraph (d)(2) of this section. Accordingly, the maximum 
amount of eligible Distributing debt that Distributing can satisfy with 
the section 361 consideration received from Controlled is $90x (that 
is, the lesser of the $180x of eligible Distributing debt and the $110x 
of Distributing debt determined under the eight-quarterly-average test, 
reduced by the $20x of Distributing debt assumed by Controlled in the 
contribution). See paragraph (d)(1) of this section.
    (4) Example 4: Amount of distributing corporation debt under 
revolving credit agreement--(i) Facts. Distributing is the debtor under 
a revolving credit agreement entered into before the earliest 
applicable date with an unrelated creditor that is a qualifying 
creditor. The revolving credit agreement does not expire until after 
the date of the contribution, and the agreement is identified in the 
plan of reorganization for the separation. Distributing's credit limit 
under the agreement is $100x. As of the earliest applicable date, 
Distributing's outstanding balance under the agreement is $50x. After 
that date, but prior to the control distribution date, Distributing's 
outstanding balance under the agreement decreases to $40x and then 
subsequently increases to $80x.
    (ii) Analysis. The revolving credit agreement qualifies as 
historical distributing corporation debt because Distributing entered 
into the agreement before the earliest applicable date, the agreement 
does not expire until after the date of the contribution, and the 
agreement is identified in the plan of reorganization for the 
separation. See paragraph (c)(2)(iii) of this section. Although 
Distributing's credit limit under the revolving credit agreement is 
$100x, the maximum amount under the agreement that Distributing can 
satisfy with section 361 consideration is $40x (that is, the lesser of 
the outstanding balance as of the earliest applicable date ($50x) and 
the lowest balance under the agreement beginning on the earliest 
applicable date and ending on the control distribution date ($40x). See 
paragraph (c)(3)(ii)(C) of this section.
    (5) Example 5: Effect of offsetting debts on amount of historical 
distributing corporation debt--(i) Facts. As of the earliest applicable 
date, Distributing has an outstanding $100x debt owed to an unrelated 
creditor (Creditor) that is a qualifying creditor (Distributing debt). 
The Distributing debt is historical Distributing debt under paragraph 
(c)(2)(i) of this section, and therefore qualifies as Distributing debt 
eligible to be satisfied with section 361 consideration under paragraph 
(a)(2) of this section. See paragraphs (c)(1) and (2) of this section. 
As of the earliest applicable date, Creditor also has an outstanding 
$50x debt owed to Distributing (Creditor debt).
    (ii) Analysis. In determining the aggregate amount of eligible 
Distributing debt under paragraph (c)(3) of this section, the amount of 
eligible Distributing debt must be reduced by the aggregate principal 
amount of any debt for which Distributing is a creditor and the debtor 
is the Creditor with respect to that Distributing debt. See paragraph 
(c)(3)(iii) of this section (requiring offsetting debts to be taken 
into account). Accordingly, the aggregate amount of eligible 
Distributing debt is $50x (that is, the $100x of Distributing debt 
reduced by the $50x of Creditor debt).
    (6) Example 6: Qualifying original creditor exchange--(i) Facts. 
The section 361 consideration received by Distributing in the 
contribution consists of Controlled stock and $100x of Controlled 
securities. As of the earliest applicable date, Distributing has an 
outstanding $100x debt owed to an unrelated creditor (Creditor) that is 
a

[[Page 5285]]

qualifying creditor (Distributing debt). The Distributing debt has an 
original term that ends after the date of the contribution and is 
identified in the plan of reorganization. The maximum amount of 
Distributing debt determined under paragraph (d) of this section that 
can be satisfied with section 361 consideration is $100x. Pursuant to 
the plan of reorganization for the separation, Distributing transfers 
the $100x of Controlled securities received from Controlled directly to 
Creditor in satisfaction of the Distributing debt. This transfer does 
not qualify as a qualifying intermediated exchange under paragraph 
(e)(3) of this section or as a qualifying direct issuance transaction 
under paragraph (e)(4) of this section.
    (ii) Analysis. The Distributing debt qualifies as historical 
distributing corporation debt because Distributing incurred the debt 
before the earliest applicable date and that debt has an original term 
that ends after the date of the contribution and is identified in the 
plan of reorganization. See paragraph (c)(2)(i) of this section. 
Creditor is a qualifying creditor because Creditor holds historical 
distributing corporation debt and does not run afoul of the related-
creditor prohibition under paragraph (b)(2)(i) of this section. See 
paragraph (b)(1) of this section. The amount of Distributing debt 
satisfied in the transaction (that is, $100x) does not exceed the 
maximum amount determined under paragraph (d) of this section (that is, 
$100x). Distributing's transfer of the $100x of Controlled securities 
directly to Creditor in satisfaction of Distributing debt is a 
qualifying original creditorexchange, and therefore is a qualifying 
debt elimination transaction. See paragraph (e)(2) of this section. 
Accordingly, the transfer of $100x of Controlled securities to Creditor 
in satisfaction of Distributing debt is treated as a distribution by 
Distributing to its shareholders pursuant to the plan of 
reorganization. See paragraph (a) of this section.
    (7) Example 7: Not a qualifying direct issuance transaction--(i) 
Facts. The facts are the same as in paragraph (g)(6)(i) of this section 
(Example 6), except for the following. In anticipation of the divisive 
reorganization, Distributing intends to issue new debt to Creditor and 
use the proceeds to satisfy historical Distributing debt on a date 
following the contribution date. Accordingly, after the earliest 
applicable date, and as part of a prearranged, integrated plan with 
Creditor, Distributing carries out the following transactions. First, 
Distributing directly issues new debt to Creditor (new Distributing 
debt) in exchange for $100x. Distributing intends to transfer to 
Creditor the Controlled securities Distributing receives in the 
contribution to satisfy the new Distributing debt (collectively, the 
direct issuance transaction). On a date following the contribution, 
Distributing uses the $100x of proceeds from the new Distributing debt 
to repay the historical Distributing debt. Also following the date of 
the contribution, Distributing transfers the Controlled securities to 
Creditor in exchange for the refinanced Distributing debt (securities-
for-debt exchange).
    (ii) Analysis. The securities-for-debt exchange is not carried out 
through a qualifying debt elimination transaction. Distributing 
incurred the refinanced Distributing debt after the earliest applicable 
date and does not satisfy the requirements for the refinancing 
exception in paragraph (c)(2)(ii) of this section. The direct issuance 
transaction fails to qualify for the safe harbor for qualifying direct 
issuance transactions under paragraph (e)(4)(iii) of this section 
because Distributing had dominion and control over the direct issuance 
proceeds. See paragraph (e)(4)(iii)(A) of this section. In addition, 
the dominion and control that Distributing had over the direct issuance 
proceeds provides substantial evidence that the direct issuance 
transaction fails to qualify as a qualifying debt elimination 
transaction under the facts-and-circumstances test set forth in 
paragraph (e)(4)(ii) of this section. See paragraph (e)(4)(ii)(B)(4) of 
this section. In addition, the securities-for-debt exchange was carried 
out pursuant to an arrangement that comprises part of a prearranged, 
integrated plan, and therefore also provides substantial evidence that 
the direct issuance transaction fails to qualify as a qualifying debt 
elimination transaction. See paragraph (e)(4)(ii)(B)(1) of this 
section. Accordingly, the exchange with Creditor is not a qualifying 
original creditorexchange, a qualifying intermediated exchange, or a 
qualifying direct issuance transaction. See paragraphs (e)(2), (3), and 
(4) of this section. As a result, Distributing's transfer of the 
Controlled securities to Creditor is not treated as a distribution to 
its shareholders pursuant to the plan of reorganization under Sec.  
1.361-4(a)(2)(ii). See paragraph (a) of this section.
    (8) Example 8: Qualifying intermediated exchange--(i) Facts--(A) 
Historical Distributing debt. The section 361 consideration received by 
Distributing in the contribution consists of Controlled stock and $100x 
of Controlled securities. As of the earliest applicable date, 
Distributing has outstanding debt of $100x owed to an unrelated 
creditor that is a qualifying creditor (Distributing debt). 
Furthermore, that debt has an original term that ends after the date of 
the contribution and is identified in the plan of reorganization.
    (B) Intermediated exchange. Pursuant to the plan of reorganization 
for the separation, Distributing engages an intermediary to facilitate 
the transfer of the $100x of Controlled securities in satisfaction of 
the Distributing debt (intermediated exchange). As described in the 
plan of reorganization, the intermediary will acquire the $100x of 
Distributing debt directly from the creditor (and not from 
Distributing, Controlled, or any Distributing related person or 
Controlled related person). The intermediary will not hold that debt 
for the benefit of Distributing, Controlled, or any Distributing 
related person or Controlled related person. All exchanges of 
Controlled securities for Distributing debt between Distributing and 
the intermediary are effectuated based on terms and conditions arrived 
at by the parties bargaining at arm's length. None of Distributing, 
Controlled, or any Distributing related person or Controlled related 
person participates in any profit gained by the intermediary upon an 
exchange of Controlled securities or limits by agreement or other 
arrangement any such profit. The intermediary acts for its own account 
with regard to all components of the intermediated exchange, bears the 
risk of loss with respect to the Distributing debt and any subsequent 
sale or other disposition of the Controlled securities, and does not 
enter into a variable pricing or similar agreement with Distributing, 
Controlled, or any Distributing related person or Controlled related 
person with regard to the Controlled securities. The intermediary holds 
the Distributing debt for a period of not less than 30 days ending on 
the distribution date. All applicable requirements set forth in 
paragraphs (b) through (d) of this section are satisfied.
    (ii) Analysis. The intermediated exchange satisfies all 
requirements set forth in paragraph (e)(3) of this section to qualify 
as a qualifying debt elimination transaction. See paragraphs (b) 
through (d) and (e)(3) of this section.


Sec.  1.361-6  Applicability date.

    (a) Applicability date. The rules of Sec. Sec.  1.361-1 through 
1.361-5 apply to transactions intended to qualify under section 361 of 
the Code for which the

[[Page 5286]]

earliest of the following dates occurs after [DATE OF PUBLICATION OF 
FINAL REGULATIONS IN THE FEDERAL REGISTER]:
    (1) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (2) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (3) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (4) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (5) The date a ruling request for the transaction is submitted to 
the IRS.
0
Par. 14. Section 1.368-1 is amended by revising paragraph (c) to read 
as follows:


Sec.  1.368-1  Purpose and scope of exception of reorganization 
exchanges.

* * * * *
    (c) Scope of exception for reorganization exchanges--(1) Overview. 
The reorganization provisions of part III of subchapter C of chapter 1 
of the Code (part III) consist of the following categories of rules:
    (i) Definitional provisions (as described in paragraph (c)(2)(i) of 
this section), the satisfaction of which qualify persons for potential 
nonrecognition treatment under the Code. The purpose of these 
definitional provisions is to limit the scope of transactions, and 
therefore the parties to such transactions (and other relevant persons, 
such as shareholders of a party to a reorganization), to which certain 
operative provisions apply.
    (ii) Operative provisions (certain of which are described in 
greater detail in paragraph (c)(2)(ii) of this section), the 
satisfaction of which qualify a party for partial or complete 
nonrecognition treatment under part III. The purpose of these operative 
provisions is to further limit the scope of transactions, and therefore 
the parties to such transactions (and other relevant persons, such as 
shareholders of a party to a reorganization), that qualify for 
nonrecognition treatment (in whole or in part) under part III.
    (2) Definitional and operative provisions. The definitional and 
operative provisions referred to in paragraph (c)(1) of this section 
include the following:
    (i) Definitional provision. Section 368(a)(1) limits the definition 
of the term reorganization to seven types of transactions (including 
triangular reorganizations, which are variants of such transactions). 
All transactions and series of transactions that do not satisfy any of 
the definitional provisions under section 368(a)(1) are excluded from 
treatment as a reorganization under part III.
    (ii) Operative provisions for transactions that qualify as 
reorganizations--(A) Section 354. Section 354 generally provides that a 
shareholder or security holder of a target corporation recognizes no 
gain or loss if the target corporation is a party to a reorganization 
and the shareholder or security holder exchanges solely stock or 
securities of the target corporation for the stock or securities of an 
acquiring corporation pursuant to the plan of reorganization.
    (B) Section 355. Section 355 generally provides that, if all 
requirements are satisfied, shareholders and security holders of a 
distributing corporation recognize no gain or loss (and do not include 
any amount in income) on the receipt of controlled corporation stock or 
securities with respect to, or in exchange for, their distributing 
corporation stock.
    (C) Section 356. Section 356 of the Code generally provides that, 
if a shareholder of a target corporation receives stock or securities 
of the corporation in an exchange to which section 354 or 355 otherwise 
would apply, and also receives money or other property, then that 
shareholder recognizes gain or income (as determined pursuant to the 
gain calculation and characterization rules under section 356).
    (D) Section 357. Section 357 of the Code generally provides that an 
assumption by an acquiring corporation of a liability of a target 
corporation is not treated as money received by the target corporation 
(and, therefore, the target corporation recognizes no gain or loss as a 
result of the liability assumption).
    (E) Section 361(a) and (b)--Transfers of stock or securities. 
Section 361(a) and (b) of the Code generally provide that a target 
corporation recognizes no gain or loss if that corporation is a party 
to a reorganization and exchanges property, pursuant to the plan of 
reorganization, solely for stock or securities in an acquiring 
corporation that is a party to the reorganization.
    (F) Section 361(c)--Distributions of qualified property by target 
corporation. Section 361(c) generally provides that a target 
corporation recognizes no gain or loss on the distribution to its 
shareholders or transfer to its creditors of qualified property (as 
defined in section 361(c)(2)(B)) pursuant to the plan of 
reorganization.
    (3) Applicability date. This paragraph (c) applies to transactions 
intended to qualify under section 368 of the Code for which the 
earliest of the following dates occurs after [DATE OF PUBLICATION OF 
FINAL REGULATIONS IN THE FEDERAL REGISTER]:
    (i) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (ii) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (iii) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (iv) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (v) The date a ruling request for the transaction is submitted to 
the IRS.
* * * * *
0
Par. 15. Section 1.368-2 is amended by revising paragraphs (f) and (g) 
to read as follows:


Sec.  1.368-2  Definitions of terms and operative rules.

* * * * *
    (f) Party to a reorganization--(1) Overview. The provisions 
described in Sec.  1.368-1(c)(2)(i) and (ii) apply solely to a 
transaction that is carried out by, between, or among one or more 
parties to a reorganization.
    (2) Scope of party to a reorganization. For purposes of determining 
the scope of the transaction or series of transactions to which the 
provisions described in Sec.  1.368-1(c)(2)(i) and (ii) apply, the term 
party to a reorganization is limited solely to a corporation that--
    (i) Is described in paragraph (f)(3) of this section; and
    (ii) Is determined to be a party to a reorganization pursuant to 
paragraph (f)(4) of this section.
    (3) Definition--(i) In general. The term party to a reorganization 
includes--
    (A) A corporation resulting from a transaction that qualifies as a 
reorganization;
    (B) Both corporations, in a transaction that qualifies as a 
reorganization in which one corporation acquires stock or properties of 
another corporation; and
    (C) A corporation controlling an acquiring corporation in a 
transaction that qualifies as a triangular reorganization (as defined 
in Sec.  1.358-6(b)(2)) if stock of the controlling corporation is used 
in the acquisition of stock or properties.

[[Page 5287]]

    (ii) Certain transfers of assets or stock in reorganizations--(A) 
In general. If a transaction otherwise qualifies as a reorganization, a 
corporation remains a party to the reorganization even though stock or 
assets acquired by the acquiring corporation pursuant to the plan of 
reorganization are transferred in a transaction described in paragraph 
(k) of this section. For example, a corporation does not cease to be a 
party to the reorganization solely because part or all of the assets 
acquired pursuant to the plan of reorganization are transferred to a 
partnership in which the transferor is a partner, so long as the 
continuity of business enterprise requirement is satisfied. See Sec.  
1.368-1(d).
    (B) Triangular reorganizations. If a transaction otherwise 
qualifies as a reorganization under section 368(a)(1)(B) or as a 
reverse triangular merger (as defined in Sec.  1.358-6(b)(2)(iii)), the 
target corporation (in the case of a transaction that otherwise 
qualifies as a reorganization under section 368(a)(1)(B)) or the 
surviving corporation (in the case of a transaction that otherwise 
qualifies as a reverse triangular merger) remains a party to the 
reorganization even though its stock or assets acquired pursuant to the 
plan of reorganization are transferred in a transaction described in 
paragraph (k) of this section. If a transaction otherwise qualifies as 
a forward triangular merger (as defined in Sec.  1.358-6(b)(2)(i)), a 
triangular B reorganization (as defined in Sec.  1.358-6(b)(2)(iv)), a 
triangular C reorganization (as defined in Sec.  1.358-6(b)(2)(ii)), or 
a reorganization under section 368(a)(1)(G) by reason of section 
368(a)(2)(D), the acquiring corporation remains a party to the 
reorganization even though its stock is transferred in a transaction 
described in paragraph (k) of this section.
    (4) Determination of party to the reorganization--(i) Status 
generally based on plan of reorganization. Subject to paragraph 
(f)(4)(ii) of this section, the status of a corporation as a party to a 
reorganization is established solely by the inclusion and 
identification of that corporation as a party to the reorganization in 
a plan of reorganization (as defined in Sec.  1.368-4) that is filed 
with the IRS pursuant to Sec.  1.368-3(a)(5).
    (ii) Status determined by Commissioner based on Federal income tax 
principles. Notwithstanding the inclusion or omission of a corporation 
as a party to a reorganization in a plan of reorganization filed by the 
taxpayer with the IRS pursuant to Sec.  1.368-3(a)(5), the status of a 
corporation as a party to the reorganization may be determined by the 
Commissioner based on the correction of that plan of reorganization in 
accordance with Sec.  1.368-4(c)(2), taking into account--
    (A) All facts and circumstances regarding the transaction or series 
of transactions; and
    (B) All relevant provisions of the Code and general principles of 
Federal income tax law, including the step transaction doctrine.
    (5) Examples. The following examples illustrate the application of 
the rules of this paragraph (f).
    (i) Example 1: Statutory merger--(A) Facts. Pursuant to State law, 
Corporation A merges into Corporation B in a transaction qualifying as 
a reorganization under section 368(a)(1)(A). A plan of reorganization 
is filed with the IRS pursuant to Sec.  1.368-3(a)(5) that identifies A 
and B as parties to the reorganization.
    (B) Analysis. A and B are both described in paragraph (f)(3)(i)(B) 
of this section. Further, the status of both A and B as parties to the 
reorganization is established by their identification in the plan of 
reorganization. See paragraph (f)(4)(i) of this section. Accordingly, 
each of A and B is a party to a reorganization for purposes of 
determining the scope of the transactions to which the definitional and 
operative provisions described in Sec.  1.368-1(c)(2)(i) and (ii) 
apply. See paragraph (f)(2) of this section.
    (ii) Example 2: B reorganization--(A) Facts. Corporation C owns all 
the stock of Corporation D. D acquires all the stock of Corporation E 
solely in exchange for voting stock of D in a transaction qualifying as 
a reorganization under section 368(a)(1)(B). A plan of reorganization 
is filed with the IRS pursuant to Sec.  1.368-3(a)(5) that identifies D 
and E as parties to the reorganization.
    (B) Analysis. With respect to D and E, the analysis is the same as 
in paragraph (f)(5)(i)(B) of this section (Example 1). C is not 
described in paragraph (f)(3) of this section. Accordingly, C is not a 
party to the reorganization.
    (iii) Example 3: Triangular C reorganization--(A) Facts. The facts 
are the same as in paragraph (f)(5)(ii)(A) of this section (Example 2), 
except that D acquires all the assets of E solely in exchange for 
voting stock of C, and E distributes the stock of C received in the 
exchange to E's shareholders, in a transaction that qualifies as a 
reorganization under section 368(a)(1)(C). A plan of reorganization is 
filed with the IRS pursuant to Sec.  1.368-3(a)(5) that identifies C, 
D, and E as parties to the reorganization.
    (B) Analysis. With respect to D and E, the analysis is the same as 
in paragraph (f)(5)(i)(B) of this section (Example 1). C is described 
in paragraph (f)(3)(i)(C) of this section and is identified as a party 
to the reorganization in the plan of reorganization. Accordingly, C 
also is a party to a reorganization for purposes of determining the 
scope of the transactions to which the definitional and operative 
provisions described in Sec.  1.368-1(c)(2)(i) and (ii) apply. See 
paragraph (f)(2) of this section.
    (iv) Example 4: Transfer of assets acquired in a reorganization--
(A) Facts. The facts are the same as in paragraph (f)(5)(iii)(A) of 
this section (Example 3), except that, after the reorganization, D 
transfers all the assets of E received in the exchange to a partnership 
in which D owns a significant interest. The partnership continues E's 
historic business.
    (B) Analysis. The continuity of business enterprise requirement 
continues to be satisfied after D's transfer of the E assets to the 
partnership. See Sec.  1.368-1(d)(4)(iii). Consequently, none of C, D, 
or E ceases to be a party to the reorganization. See paragraph 
(f)(3)(ii)(B) of this section.
    (v) Example 5: Transfer of stock acquired in a triangular 
reorganization. The facts are the same as in paragraph (f)(5)(iii)(A) 
of this section (Example 3), except that E merges into D under State 
law solely in exchange for C stock in a transaction qualifying as a 
reorganization under section 368(a)(1)(A) by reason of section 
368(a)(2)(D). After the reorganization, C transfers all the stock of D 
to newly formed Corporation G in exchange for all the stock of G.
    (B) Analysis. The analysis is the same as in paragraph 
(f)(5)(iii)(B) of this section. Additionally, the continuity of 
business enterprise requirement continues to be satisfied after C's 
transfer of the D stock to G. See Sec.  1.368-1(d)(4)(iii). 
Accordingly, D does not cease to be a party to the reorganization by 
reason of the transfer. See paragraph (f)(3)(ii) of this section.
    (vi) Example 6: Divisive reorganization--(A) Facts. Pursuant to a 
plan of reorganization for a transaction that qualifies as a 
reorganization under sections 368(a)(1)(D) and 355, Corporation F 
transfers one of its businesses to newly formed Corporation G in 
exchange for all the stock of G and then distributes all the G stock to 
F's shareholders. The plan of reorganization, which is filed with the 
IRS pursuant to Sec.  1.368-3(a)(5), identifies F and G as parties to 
the reorganization.
    (B) Analysis. The analysis is the same as in paragraph (f)(5)(i)(B) 
of this section (Example 1).

[[Page 5288]]

    (6) Applicability date. The rules of this paragraph (f) apply to 
transactions intended to qualify under section 368 of the Code for 
which the earliest of the following dates occurs after [date of 
publication of final regulations in the Federal Register]:
    (i) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (ii) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (iii) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (iv) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (v) The date a ruling request for the transaction is submitted to 
the IRS.
    (g) [Reserved]
* * * * *
0
Par. 16. Section 1.368-3 is amended by:
0
a. Revising paragraphs (a)(3)(iv) and (4);
0
b. Adding paragraph (a)(5) and
0
c. Revising paragraph (e).
    The revisions and addition read as follows:


Sec.  1.368-3  Records to be kept and information to be filed with 
returns.

    (a) * * *
    (3) * * *
    (iv) Property not described in paragraph (a)(3)(i), (ii), or (iii) 
of this section;
    (4) The date and control number of any private letter ruling(s) 
issued by the Internal Revenue Service in connection with this 
reorganization; and
    (5) A copy of the plan of reorganization satisfying the 
requirements set forth in Sec.  1.368-4(d).
* * * * *
    (e) Applicability date--(1) In general. This section applies to any 
taxable year beginning on or after May 30, 2006. However, taxpayers may 
apply this section to any original Federal income tax return (including 
any amended return filed on or before the due date (including 
extensions) of such original return) timely filed on or after May 30, 
2006. For taxable years beginning before May 30, 2006, see Sec.  1.368-
3 as contained in 26 CFR part 1 in effect on April 1, 2006.
    (2) Paragraphs (a)(3) and (b)(3). Paragraphs (a)(3) and (b)(3) of 
this section apply with respect to reorganizations occurring on or 
after March 28, 2016, and also with respect to reorganizations 
occurring before such date as a result of an entity classification 
election under Sec.  301.7701-3 of this chapter filed on or after March 
28, 2016, unless such reorganization is pursuant to a binding agreement 
that was in effect prior to March 28, 2016 and at all times thereafter.
    (3) Paragraph (a)(5). Paragraph (a)(5) of this section applies to 
transactions intended to qualify under section 368 of the Code for 
which the earliest of the following dates occurs after [date of 
publication of final regulations in the Federal Register]:
    (i) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (ii) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (iii) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (iv) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (v) The date a ruling request for the transaction is submitted to 
the IRS.
0
Par. 17. Section 1.368-4 is added to read as follows:


Sec.  1.368-4  Plan of reorganization.

    (a) Plan of reorganization--(1) Scope and purpose. This section 
sets forth requirements and procedures for the determination of a plan 
of reorganization, including the scope of transactions properly 
included within that plan. The plan of reorganization serves to 
identify solely those transactions to which the definitional and 
operative provisions described in Sec.  1.368-1(c)(2)(i) and (ii) 
apply. The plan of reorganization also serves to distinguish those 
qualifying transactions described in Sec.  1.368-1(c)(2)(i) and (ii) 
from transactions to which the general recognition provisions of the 
Code (such as section 1001 of the Code) apply. The plan of 
reorganization is not to be construed as broadening the definition of a 
reorganization as set forth in section 368(a) of the Code.
    (2) Plan of reorganization to which definitional and operative 
provisions apply. The provisions described in Sec.  1.368-1(c)(2)(i) 
and (ii) apply solely to a transaction that is identified in, and 
carried out pursuant to--
    (i) A plan of reorganization of a taxpayer described in paragraph 
(b)(1) or an amended plan of reorganization described in paragraph (f) 
of this section;
    (ii) A plan of reorganization of a taxpayer that is corrected by 
the Commissioner under paragraph (b)(2)(i) of this section; or
    (iii) A plan of reorganization that is identified by the 
Commissioner under paragraph (b)(2)(ii) of this section.
    (3) Failure to satisfy requirements. The failure of a taxpayer to 
comply with any particular requirement or procedure set forth in this 
section (including the failure to file a plan of reorganization with 
the IRS pursuant to Sec.  1.368-3(a)(5)) does not, on its own, prevent 
a transaction or series of transactions from being considered part of 
the plan of reorganization, qualifying as a reorganization under a 
definitional provision, or qualifying for nonrecognition treatment (in 
whole or in part) under an operative provision.
    (b) Definition. The term plan of reorganization means--
    (1) A plan of reorganization of a taxpayer that--
    (i) Satisfies all requirements set forth in paragraph (d) of this 
section; and
    (ii) Is filed with the IRS pursuant to Sec.  1.368-3(a)(5); or
    (2) A plan of reorganization that results from--
    (i) The Commissioner correcting a plan of reorganization of a 
taxpayer; or
    (ii) The Commissioner identifying a plan of reorganization for a 
taxpayer (in the event of a failure to file a plan of reorganization 
with the IRS pursuant to Sec.  1.355-5(a)(2)).
    (c) Determination of plan of reorganization--(1) Status generally 
based on plan of reorganization filed by taxpayer. Except as provided 
in paragraph (c)(2) of this section, a taxpayer establishes the plan of 
reorganization for a transaction or series of transactions solely by--
    (i) Satisfying all requirements set forth in paragraph (d) of this 
section; and
    (ii) Filing the plan of reorganization with the IRS pursuant to 
Sec.  1.368-3(a)(5).
    (2) Correction or identification of plan of reorganization due to 
taxpayer's failure to file a complete plan of reorganization--(i) In 
general. If a taxpayer files a plan of reorganization with the IRS that 
fails to satisfy any requirement set forth in paragraph (d) of this 
section, or if the taxpayer fails to file any plan of reorganization 
with the IRS, the Commissioner may correct or identify a plan of 
reorganization in accordance with paragraph (c)(2)(ii) of this section.
    (ii) Status of transactions as part of a plan of reorganization. 
The Commissioner may determine that a transaction or series of 
transactions should be included in, or excluded from, a plan of 
reorganization described in paragraph (c)(2)(i) of this section based 
on--

[[Page 5289]]

    (A) All facts and circumstances regarding the transaction or series 
of transactions; and
    (B) All relevant provisions of the Code and general principles of 
Federal income tax law, including the step transaction doctrine.
    (d) Requirements for a plan of reorganization. To qualify as a plan 
of reorganization described in paragraph (b)(1) of this section, the 
taxpayer must satisfy all requirements set forth in paragraphs (d)(1) 
through (3) of this section. For purposes of this paragraph (d) and 
paragraph (e) of this section, the term official records includes a 
contract or other written agreement to which the taxpayer is a party, a 
resolution or other document authorized by the taxpayer's board of 
directors, or other document filed with the U.S. Securities and 
Exchange Commission (SEC) or other Federal regulatory agency.
    (1) Documentation requirement. The plan of reorganization is 
provided in a single, comprehensive document that--
    (i) Identifies all parties to the reorganization (as determined 
pursuant to Sec.  1.368-2(f));
    (ii) Identifies all transactions properly included in the plan of 
reorganization (as determined pursuant to paragraph (e) of this 
section);
    (iii) Identifies all liabilities (including debt) to be assumed by 
the acquiring corporation and the obligees (or creditors) of those 
liabilities;
    (iv) Identifies all debt of the target corporation that will be 
satisfied with section 361 consideration (as defined in Sec.  1.361-
1(b)(49)) (including all debt intended to qualify for the refinancing 
exception for historical distributing corporation debt under Sec.  
1.361-5(c)) and the creditors of that debt;
    (v) Describes the intended Federal income tax treatment of the 
transactions described in paragraph (d)(1)(ii) of this section;
    (vi) Describes the business purpose for each transaction described 
in paragraph (d)(1)(ii) of this section; and
    (vii) Establishes that the readjustments involved in transactions 
described in paragraph (d)(1)(ii) of this section are undertaken to 
facilitate the continuance of the business of a corporation a party to 
the reorganization.
    (2) Adoption of plan of reorganization. Prior to the first step of 
the reorganization, a plan of reorganization described in paragraph 
(b)(1)(i) of this section or an original plan of reorganization that 
becomes the amended plan of reorganization (within the meaning of 
paragraph (f) of this section), as applicable, is finalized and adopted 
by the party to the reorganization, as established by--
    (i) The acts of the party's respective duly authorized officers and 
directors; and
    (ii) The official records of the party to the reorganization.
    (3) Completion of plan of reorganization--(i) Expeditious 
prosecution of plan of reorganization--(A) General rule. In accordance 
with paragraph (d)(3)(iii) of this section, taking into account all 
facts and circumstances (including the one or more business purposes 
for the reorganization), all parties to the reorganization complete the 
plan of reorganization as expeditiously as practicable.
    (B) 24-month presumption. The requirement in paragraph (d)(3)(i)(A) 
of this section is presumed to be satisfied if, in accordance with 
paragraph (d)(3)(ii) of this section, all parties to the reorganization 
complete the plan of reorganization within the 24-month period 
beginning on the date of the first step of the plan of reorganization.
    (ii) Completion of entire plan of reorganization--(A) General rule. 
All transactions included in a plan of reorganization must be carried 
out in the manner described in the plan of reorganization.
    (B) Failure to complete entire plan of reorganization. Except as 
provided in paragraph (f) of this section, if the requirement of 
paragraph (d)(3)(ii)(A) of this section is not satisfied, the 
provisions described in Sec.  1.368-1(c)(2)(i) and (ii) do not apply to 
the transaction (or series of transactions) unless the Commissioner 
determines the existence of a plan of reorganization.
    (e) Requirements for transactions to be treated as properly 
included in plan of reorganization. The requirements set forth in this 
paragraph (e) must be satisfied for a transaction to be treated as 
properly included in a plan of reorganization. The existence of 
contingencies or conditions is not conclusive in determining whether a 
requirement of this paragraph (e) is satisfied.
    (1) Definite intent requirement--(i) General rule. Prior to the 
first step of the plan of reorganization or an original plan of 
reorganization that becomes the amended plan of reorganization (within 
the meaning of paragraph (f) of this section), one or more parties to 
the reorganization evidences a definite intent to carry out the 
transaction through a written commitment in one or more official 
records of the party that substantiate the plan of reorganization.
    (ii) Section 355 transactions. With regard to a control 
distribution (as defined in Sec.  1.355-1(a)(2)(iii)) that occurs in 
the next taxable year after the first distribution, the distributing 
corporation does not establish a definite intent under paragraph 
(e)(1)(i) of this section unless all distributions up to and including 
the control distribution are effectuated pursuant to a binding 
commitment of the distributing corporation. See Sec.  1.355-
2(e)(2)(ii).
    (iii) Relevancy of contemplated possibilities--(A) Contemplation 
irrelevant to taxpayer's determination. The contemplation by a party 
that the party may carry out a transaction is not sufficient for the 
party to establish a definite intent to carry out that transaction, 
regardless of whether that contemplated transaction is included in an 
official record of a party.
    (B) Contemplation relevant to Commissioner's determination. A 
party's contemplation of a transaction may be relevant for purposes of 
the correction or identification of a plan of reorganization by the 
Commissioner pursuant to paragraph (c)(2) of this section.
    (2) Proximate relationship requirement--(i) General rules. Taking 
into account paragraphs (e)(2)(ii) and (iii) of this section:
    (A) Necessary or integral test for application of definitional 
provision. A transaction is part of the plan of reorganization for a 
reorganization to which the provisions described in Sec.  1.368-
1(c)(2)(i) apply only if, on its own or as part of a series of 
transactions, the transaction is necessary to satisfy one or more 
requirements of a definitional provision described in Sec.  1.368-
1(c)(2)(i), or is an integral part of a series of transactions carried 
out to satisfy the requirements of the definitional provision intended 
to apply to the reorganization, as evidenced by a written commitment in 
one or more official records of the party to the reorganization.
    (B) But for, or integral to, test for application of operative 
provision. A transaction is part of the plan of reorganization to which 
the provisions described in Sec.  1.368-1(c)(2)(ii) apply only if, on 
its own or as part of a series of transactions, the transaction would 
not occur but for the reorganization that is covered by the plan of 
reorganization, or is an integral part of a series of transactions 
carried out to satisfy the requirements of the definitional provision 
intended to apply to the reorganization, as evidenced by a written 
commitment in one or more official records of the party to the 
reorganization.
    (ii) Existence of independent significance not determinative. The

[[Page 5290]]

independent significance of a transaction (for example, the fact that 
the transaction has a separate business motive apart from the 
reorganization) does not preclude the satisfaction of the requirements 
under paragraph (e)(2)(i) of this section.
    (iii) Temporal proximity. A transaction that takes place in close 
temporal proximity to one or more other transactions is not properly 
included in a plan of reorganization under paragraph (e)(2)(i) of this 
section unless Federal income tax principles (including the step 
transaction doctrine) would apply to determine that the transaction was 
in substance part of the plan of reorganization.
    (3) Business purpose consistency requirement. A transaction, on its 
own or as part of a series of transactions is consistent with, and 
directly related to, one or more business purposes for the 
reorganization (for example, the transaction directly furthers one or 
more business purposes for the reorganization).
    (f) Amended plan of reorganization--(1) Conditions. If a taxpayer 
amends a plan of reorganization described in paragraph (b)(1) of this 
section (original plan of reorganization) after the first step of the 
original plan of reorganization (amended plan of reorganization), those 
amendments will not cause the taxpayer to fail to satisfy the 
requirements set forth in paragraph (d) of this section only if--
    (i) Those amendments are in direct response to an identifiable, 
unexpected, and material change in market or business conditions that 
occurs after the date on which the original plan of reorganization is 
adopted by the party to the reorganization in the manner described in 
paragraph (d)(2) of this section;
    (ii) The amendments are necessary to achieve the one or more 
business purposes for the reorganization; and
    (iii) The amended plan of reorganization satisfies all requirements 
set forth in paragraph (d) of this section.
    (2) Consequences of plan of reorganization amended due to changed 
circumstances--(i) Qualifying amended plan of reorganization. If the 
requirements set forth in paragraph (f)(1) of this section are 
satisfied, the provisions described in Sec.  1.368-1(c)(2)(i) and (ii) 
will apply to transactions identified in, and carried out pursuant to, 
the amended plan of reorganization. That is, the Federal income tax 
consequences of all transactions included in the amended plan of 
reorganization will be determined based on that plan of reorganization 
(and not on the original plan of reorganization).
    (ii) Non-qualifying amended plan of reorganization. If an amended 
plan of reorganization fails to satisfy all requirements set forth in 
paragraph (f)(1) of this section, the Commissioner may correct or 
identify the amended plan of reorganization.
    (g) Examples. The following examples illustrate the application of 
the rules of this section. For purposes of these examples, unless 
otherwise stated: terms defined in Sec.  1.361-1(b) and used in these 
examples have the meaning given such terms in Sec.  1.361-1(b); all 
transactions are completed within the 24-month period beginning on the 
date of the first transaction; all transactions qualify for the Federal 
income tax treatment intended by the taxpayers, as described in the 
facts of each example; and all corporations are calendar-year 
taxpayers.
    (1) Example 1: Creation of plan of reorganization--(i) Facts. A 
target corporation (Target) transfers all its assets to an acquiring 
corporation (Acquiring) solely in exchange for stock of Acquiring and 
Acquiring's assumption of Target liabilities. Target distributes all 
the Acquiring stock to Target's shareholders. The transaction is 
intended to qualify as a reorganization under section 368(a)(1)(C). 
Target fails to file a plan of reorganization with the IRS pursuant to 
Sec.  1.368-3(a)(5).
    (ii) Analysis. Target's failure to file a plan of reorganization 
with the IRS pursuant to Sec.  1.368-3(a)(5) does not, on its own, 
prevent the series of transactions from qualifying as a reorganization 
under section 368(a)(1)(C). See paragraph (a)(3) of this section. The 
Commissioner may identify a plan of reorganization for the series of 
transactions based on all facts and circumstances and all relevant 
provisions of the Code and general principles of Federal income tax 
law, including the step transaction doctrine. See paragraphs (b)(2)(ii) 
and (c)(2) of this section. The definitional and operative provisions 
described in Sec.  1.368-1(c)(2)(i) and (ii) apply to the series of 
transactions identified in, and carried out pursuant to, the plan of 
reorganization identified by the Commissioner. See paragraph 
(a)(2)(iii) of this section.
    (2) Example 2: Correction of taxpayer's plan of reorganization--(i) 
Facts. An acquiring corporation (Acquiring) acquires a target 
corporation (Target) through the following series of transactions. 
Acquiring first effectuates a tender offer for 51 percent of Target 
stock from Target shareholders solely for Acquiring voting stock 
(tender offer). A subsidiary of Acquiring (Merger Sub) then merges into 
Target (statutory merger) in a transaction intended to qualify as a 
reverse subsidiary merger under section 368(a)(2)(E). In the statutory 
merger, Acquiring's Merger Sub stock is converted into Target stock, 
and each Target shareholder holding shares of the remaining 49 percent 
of Target stock exchanges its shares of Target stock for a combination 
of consideration, two-thirds of which is Acquiring stock and one-third 
of which is cash. Under general principles of Federal income tax law, 
including the step transaction doctrine, the tender offer and the 
statutory merger are treated as an integrated acquisition by Acquiring 
of all the Target stock. Target files a plan of reorganization with the 
IRS pursuant to Sec.  1.368-3(a)(5) that satisfies all requirements set 
forth in paragraph (d) of this section, except that the plan of 
reorganization does not mention the tender offer.
    (ii) Analysis. To determine whether the tender offer should be 
included in the plan of reorganization for the statutory merger, the 
Commissioner may examine all facts and circumstances regarding the 
series of transactions and apply all relevant provisions of the Code 
and general principles of Federal income tax law, including the step 
transaction doctrine. See paragraph (c)(2)(ii) of this section. Because 
the tender offer and the statutory merger are treated as an integrated 
series of transactions for Federal income tax purposes, the tender 
offer and the statutory merger are treated as an integrated acquisition 
for purposes of determining whether the transaction qualifies as a 
reverse subsidiary merger under section 368(a)(2)(E). Accordingly, the 
Commissioner may correct Target's plan of reorganization by including 
the tender offer. See paragraph (c)(2)(i) of this section. The 
definitional and operative provisions described in Sec.  1.368-
1(c)(2)(i) and (ii) apply to the transactions identified in, and 
carried out pursuant to, the plan of reorganization as corrected by the 
Commissioner. See paragraph (a)(2)(ii) of this section.
    (3) Example 3: Scope of plan of reorganization--distribution to 
equalize values--(i) Facts. On June 30, 2025, Corporation X and 
Corporation Y decide to merge into newly formed Corporation Z. As 
reflected in a single, comprehensive document that satisfies the 
requirements set forth in paragraph (d)(1) of this section, the board 
of directors of each of X and Y approves the transaction pursuant to 
paragraph (d)(2) of this section, with the agreement that X and Y must 
be of equal value

[[Page 5291]]

when merged into Z. Consequently, to equalize the amount of its assets 
and Y's assets, and pursuant to a board resolution, X distributes $100x 
in cash to its shareholders on September 30, 2025 (equalizing 
distribution). On October 31, 2025, X and Y consolidate under State law 
(X/Y consolidation) in a transaction intended to qualify as a 
reorganization described in section 368(a)(1)(A).
    (ii) Analysis. The board resolution pursuant to which the 
equalizing distribution was made, and the single, comprehensive 
document that reflects the decision of both boards of directors that X 
and Y be of equal value when combined in the X/Y consolidation, 
evidence a definite intent, prior to the first step of the plan of 
reorganization, for X to make the equalizing distribution. See 
paragraph (e)(1) of this section. The equalizing distribution is an 
integral part of the X/Y consolidation because the equalizing 
distribution satisfies a condition identified by the boards of 
directors of X and Y for executing the X/Y consolidation (that is, to 
equalize the values of X and Y prior to the X/Y consolidation). See 
paragraph (e)(2)(i)(B) of this section. The equalizing distribution is 
consistent with, directly relates to, and therefore directly furthers 
the business purpose for the X/Y consolidation, because the X/Y 
consolidation is intended to effectuate a merger of equals. See 
paragraph (e)(3) of this section. Accordingly, the equalizing 
distribution is properly included in the plan of reorganization for the 
X/Y consolidation. See paragraph (e) of this section. Consequently, the 
Federal income tax consequences of the equalizing distribution and the 
X/Y consolidation are determined under the definitional and operative 
provisions described in Sec.  1.368-1(c)(2)(i) and (ii). See paragraph 
(a)(2)(i) of this section.
    (4) Example 4: Scope of plan of reorganization--pre-merger stock 
acquisition--(i) Facts. Two potential acquiring corporations (X and Y) 
engage in competing tender offers to acquire 100 percent of the stock 
of a target corporation (Target). X and Y carry out the tender offers 
through their respective subsidiary corporations. On June 30, 2025, 
before acquiring any shares in Target, X subsidiary signs an agreement 
with Target (X/Target agreement) providing that, among other conditions 
(including regulatory approval and approval by the shareholders of X 
and Target), if X subsidiary successfully acquires at least 51 percent 
of Target's outstanding stock through its tender offer, X will acquire 
all remaining Target stock by causing Target to merge into X subsidiary 
in a transaction intended to qualify as a reorganization under section 
368(a)(2)(D) (subsidiary merger). As of September 30, 2025, X 
subsidiary has been tendered 51 percent of Target's outstanding stock. 
On October 15, 2025, Y subsidiary tenders to X subsidiary all of Y 
subsidiary's Target shares received in Y subsidiary's tender offer (30 
percent of Target's outstanding stock) in exchange for X stock (Y share 
exchange). On November 1, 2025, pursuant to the X/Target agreement, X 
causes Target to merge into X subsidiary (that is, the subsidiary 
merger). The subsidiary merger satisfies the requirements of a 
definitional provision described in Sec.  1.368-1(c)(2)(i) regardless 
of whether X subsidiary's tender offer (including the Y share exchange) 
is included in the plan of reorganization for the subsidiary merger.
    (ii) Analysis. The X/Target agreement imposes a legal obligation on 
X subsidiary to carry out the subsidiary merger if X subsidiary's 
tender offer is successful. Therefore, this agreement evidences a 
definite intent, prior to the first step of the plan of reorganization, 
for X subsidiary to carry out both of those transactions as part of a 
plan of reorganization. See paragraph (e)(1) of this section. 
Satisfaction of this requirement is not affected by the fact that the 
subsidiary merger is subject to significant conditions, including a 
successful X subsidiary tender offer, regulatory approval, and X and 
Target shareholder approvals. See paragraph (e) of this section. The X/
Target agreement establishes that X subsidiary's tender offer is an 
integral part of a series of transactions carried out to satisfy the 
requirements of section 368(a)(2)(D). See paragraph (e)(2) of this 
section. Satisfaction of this requirement is not affected by the fact 
that X subsidiary's tender offer has a degree of economic significance 
independent of the subsidiary merger. See paragraph (e)(2)(ii) of this 
section. X's business purpose for the merger is to acquire all the 
remaining outstanding stock of Target, as established through the X/
Target agreement. The tender offer is consistent with, directly relates 
to, and therefore directly furthers that business purpose. See 
paragraph (e)(3) of this section. Accordingly, X subsidiary's tender 
offer and the Y share exchange are properly included in the plan of 
reorganization for the subsidiary merger. Consequently, the Federal 
income tax consequences of both X subsidiary's tender offer and the 
subsidiary merger are determined under the definitional and operative 
provisions described in Sec.  1.368-1(c)(2)(i) and (ii). See paragraph 
(a)(2) of this section.
    (5) Example 5: Scope of plan of reorganization--multiple 
distributions of controlled corporation stock to constitute a control 
distribution--(i) Facts. On June 30, 2025, a distributing corporation 
(Distributing) contributes property to a newly formed controlled 
corporation (Controlled) in exchange for Controlled stock 
(contribution). On September 30, 2025, Distributing distributes 57 
percent of the Controlled stock to Distributing's shareholders (first 
distribution). On January 1, 2026, Distributing distributes the 
remaining 43 percent of Controlled stock to Distributing's shareholders 
(final distribution; together with the contribution and the first 
distribution, the separation). The separation and distribution 
agreement provides that Distributing will distribute 57 percent of 
Controlled stock during Distributing's 2025 taxable year, but only 
expresses a contemplated possibility that Distributing will distribute 
the remaining 43 percent of Controlled stock. Distributing files a plan 
of reorganization with the IRS pursuant to Sec.  1.368-3(a)(5) with its 
Federal income tax return for the 2025 taxable year that includes the 
first distribution and the final distribution as part of the plan of 
reorganization for the separation.
    (ii) Analysis. If a taxpayer files a plan of reorganization with 
the IRS that fails to satisfy any requirement set forth in paragraph 
(d) of this section, the Commissioner may correct the plan of 
reorganization. See paragraph (c)(2)(i) of this section. The 
Commissioner may correct the plan of reorganization to exclude a 
transaction based on an examination of all facts and circumstances and 
consideration of all relevant provisions of the Code and general 
principles of Federal income tax law, including the step transaction 
doctrine. See paragraph (c)(2)(ii) of this section. The final 
distribution is properly excluded from the plan of reorganization for 
the separation because Distributing fails to satisfy the definite 
intent requirement with respect to the final distribution. See 
paragraph (e)(1)(i) and (iii) of this section. Specifically, because 
the distribution of control (that is, the final distribution) occurs in 
the next taxable year after the first distribution and is not pursuant 
to a binding commitment, Distributing does not establish a definite 
intent under paragraph (e)(1)(i) of this section. See paragraph 
(e)(1)(ii) of this section. The definitional and operative provisions 
described in Sec.  1.368-1(c)(2)(i) and (ii) apply solely to the 
transactions identified in, and carried

[[Page 5292]]

out pursuant to, the plan of reorganization as corrected by the 
Commissioner (that is, the contribution and first distribution). See 
paragraph (a)(2) of this section. Accordingly, the transaction would 
fail to meet the definitional requirement under section 368(a)(1)(D) 
because the first distribution, by itself, does not meet the 
requirement set forth in Sec.  1.355-2(e)(2)(i).
    (6) Example 6: Scope of plan of reorganization--qualifying 
distribution of amount of controlled corporation stock constituting 
section 368(c) control--(i) Facts. The facts are the same as in 
paragraph (g)(5)(i) of this section (Example 5), except for the 
following. First, Distributing provides in its separation and 
distribution agreement with Controlled that Distributing will 
distribute the remaining 43 percent of Controlled stock during 2026. 
Second, for its Federal income tax return for the 2025 taxable year, 
Distributing files a plan of reorganization with the IRS pursuant to 
Sec.  1.368-3(a)(5) that satisfies all requirements set forth in 
paragraph (d) of this section, including the establishment, by 
reference to the separation and distribution agreement, that 
Distributing will distribute to its shareholders pursuant to a binding 
commitment 57 percent of Controlled stock during 2025 and the remaining 
43 percent of Controlled stock during 2026.
    (ii) Analysis. The final distribution is properly included in the 
plan of reorganization for the separation because Distributing 
satisfies the definite intent requirement to make the final 
distribution. See paragraph (e)(1)(ii) of this section. Accordingly, 
based on the correct and properly filed plan of reorganization pursuant 
to Sec.  1.368-3(a)(5), the Federal income tax consequences of the 
contribution and both the first distribution and the final distribution 
are determined under the definitional and operative provisions 
described in Sec.  1.368-1(c)(2)(i) and (ii). See paragraph (a)(2)(i) 
of this section.
    (7) Example 7: Scope of plan of reorganization--contribution and 
distribution in divisive reorganization--(i) Facts. On June 1, 2025, a 
distributing corporation (Distributing) contributes property to a newly 
formed controlled corporation (Controlled) in exchange for Controlled 
stock and Controlled's assumption of Distributing liabilities related 
to the contributed business (contribution). On September 1, 2025, 
Distributing distributes all Controlled stock to Distributing's 
shareholders (distribution; together with the contribution, the 
separation). A separation and distribution agreement between 
Distributing and Controlled, filed by Distributing with the SEC, 
evidences a definite intent, prior to the first step of the separation, 
to carry out each of these transactions comprising the separation. 
Additional official records of Distributing provide that the separation 
is carried out to sharpen management focus on, and reduce competition 
for capital between, the retained and contributed businesses, which 
includes ensuring that earnings of each business are used to pay 
liabilities arising solely from that business. Distributing files a 
plan of reorganization with the IRS pursuant to Sec.  1.368-3(a)(5) 
with its Federal income tax return for the 2025 taxable year.
    (ii) Analysis--(A) Contribution. The contribution is properly 
included in the plan of reorganization for the separation. See 
paragraph (e) of this section. First, as substantiated by the 
separation and distribution agreement, Distributing and Controlled 
evidence a definite intent, prior to the first step of the plan of 
reorganization, to carry out the contribution. See paragraph (e)(1)(i) 
of this section. Second, the contribution is necessary to satisfy the 
requirements of section 368(a)(1)(D). See paragraph (e)(2)(i)(A) of 
this section. Lastly, the contribution is consistent with, is directly 
related to, and therefore directly furthers, the business purpose for 
the reorganization. See paragraph (e)(3) of this section. Accordingly, 
based on the correct and properly filed plan of reorganization pursuant 
to Sec.  1.368-3(a)(5), the Federal income tax consequences of the 
contribution are determined under a definitional provision described in 
Sec.  1.368-1(c)(2)(i) (that is, section 368(a)(1)(D)). See paragraph 
(a)(2) of this section.
    (B) Controlled liability assumption. Controlled's liability 
assumption is properly included in the plan of reorganization for the 
separation. See paragraph (e) of this section. First, as substantiated 
by the separation and distribution agreement, Distributing and 
Controlled evidence a definite intent, prior to the first step of the 
plan of reorganization, for the liability assumption to occur. See 
paragraph (e)(1)(i) of this section. Second, the liability assumption 
would not have occurred but for, and is integral to, the separation, 
because the assumption ensures that the respective liabilities of the 
retained and contributed businesses continue to be associated with 
those businesses. See paragraph (e)(2)(i)(B) of this section. Lastly, 
the Controlled liability assumptionis consistent with, is directly 
related to, and therefore directly furthers the business purpose for 
the reorganization by ensuring that the earnings of each business are 
used to pay liabilities arising solely from that business (in other 
words, furthering Distributing's fit-and-focus corporate business 
purpose). See paragraph (e)(3) of this section. Accordingly, based on 
the correct and properly filed plan of reorganization pursuant to Sec.  
1.368-3(a)(5), the Federal income tax consequences of the liability 
assumption are determined under an operative provision described in 
Sec.  1.368-1(c)(2)(ii) (that is, section 357). See paragraph (a)(2) of 
this section.
    (C) Distribution. The distribution is properly included in the plan 
of reorganization for the separation. See paragraph (e) of this 
section. First, as substantiated by the separation and distribution 
agreement, Distributing and Controlled evidence a definite intent, 
prior to the first step of the plan of reorganization, for Distributing 
to make the distribution. See paragraph (e)(1)(i) of this section. 
Second, the distribution is necessary to satisfy the requirements of 
section 368(a)(1)(D). See paragraph (e)(2)(i)(A) of this section. 
Lastly, the distribution is consistent with, is directly related to, 
and therefore directly furthers, the fit-and-focus corporate business 
purpose for the reorganization. See paragraph (e)(3) of this section. 
Accordingly, based on the correct and properly filed plan of 
reorganization pursuant to Sec.  1.368-3(a)(5), the Federal income tax 
consequences of the distribution are determined under the definitional 
and operative provisions described in Sec.  1.368-1(c)(2)(i) and (ii) 
(that is, sections 355 and 368(a)(1)(D)). See paragraph (a)(2) of this 
section.
    (8) Example 8: Scope of plan of reorganization--boot purge through 
special dividend--(i) Facts. The facts are the same as in paragraph 
(g)(7)(i) of this section (Example 7), except for the following. As 
part of the contribution, Distributing receives cash from Controlled in 
partial exchange for the assets contributed by Distributing to 
Controlled. Distributing distributes that cash to its shareholders 
pursuant to a special dividend declared by Distributing's board of 
directors (special dividend boot purge) that is intended to facilitate 
an appropriate post-separation capital structure for the retained and 
contributed businesses. The separation and distribution agreement, a 
resolution adopted by Distributing's board of directors, and other 
official records of Distributing collectively evidence a definite 
intent, prior to the first step of the separation, to carry out the 
transactions comprising the separation (including the special dividend 
boot purge). In particular, those documents provide that the special 
dividend is in addition to any regularly occurring

[[Page 5293]]

dividends distributed to Distributing's shareholders pursuant to 
Distributing's dividend payment policy (as reflected in documents filed 
by Distributing with the SEC).
    (ii) Analysis. The special dividend boot purge is properly included 
in the plan of reorganization for the separation. See paragraph (e) of 
this section. First, as substantiated by the separation and 
distribution agreement and other official records of Distributing, 
Distributing and Controlled evidence a definite intent, prior to the 
first step of the plan of reorganization, for Distributing to make the 
special dividend boot purge. See paragraph (e)(1)(i) of this section. 
Second, the special dividend boot purge would not occur but for the 
separation, as evidenced by the separation and distribution agreement 
and other official records of Distributing, and by the fact that the 
special dividend is in addition to any regularly occurring dividends 
made pursuant to Distributing's dividend payment policy. See paragraph 
(e)(2)(i)(B) of this section. Lastly, the special dividend boot purge 
is consistent with, directly relates to, and therefore directly 
furthers the business purpose for the separation because the special 
dividend boot purge facilitates an appropriate post-separation capital 
structure for the retained and contributed businesses (thereby 
facilitating Distributing's fit-and-focus corporate business purpose). 
See paragraph (e)(3) of this section. Accordingly, based on the correct 
and properly filed plan of reorganization pursuant to Sec.  1.368-
3(a)(5), the Federal income tax consequences of the special dividend 
boot purge are determined under an operative provision described in 
Sec.  1.368-1(c)(2)(ii) (that is, section 361). See paragraph (a)(2) of 
this section.
    (9) Example 9: Scope of plan of reorganization--boot purge through 
special stock repurchase--(i) Facts. The facts are the same as in 
paragraph (g)(8)(i) of this section (Example 8), except that 
Distributing uses the Controlled cash to fund a special repurchase of 
Distributing stock (and, accordingly, is not part of an existing stock 
repurchase program approved by Distributing's board of directors).
    (ii) Analysis. The analysis is the same as in paragraph (g)(8)(ii) 
of this section (Example 8).
    (10) Example 10: Scope of plan of reorganization--boot purge 
through ordinary course dividend--(i) Facts. The facts are the same as 
in paragraph (g)(8)(i) of this section (Example 8), except for the 
following. Distributing provides in the separation and distribution 
agreement, or other official records of Distributing, that Distributing 
will distribute the Controlled cash to Distributing's shareholders 
through an ordinary course dividend made pursuant to Distributing's 
dividend payment policy. After the distribution date, Distributing pays 
an ordinary course dividend that is funded with the cash received from 
Controlled in the contribution (that is, the Controlled cash).
    (ii) Analysis. The ordinary course dividend is properly excluded 
from the plan of reorganization for the separation because the dividend 
would have occurred regardless of the separation. Therefore, the 
ordinary course dividend fails the ``but for, or integral to, test'' 
for application of operative provision. See paragraph (e)(2)(i)(B) of 
this section. Accordingly, the Federal income tax consequences of the 
ordinary course dividend are determined under section 301 of the Code, 
not an operative provision described in Sec.  1.368-1(c)(2)(ii). See 
paragraph (a)(2) of this section.
    (11) Example 11: Scope of plan of reorganization--boot purge 
through existing stock repurchase program--(i) Facts. The facts are the 
same as in paragraph (g)(10)(i) of this section (Example 10), except 
that Distributing uses the Controlled cash to fund a repurchase of 
Distributing stock pursuant to an existing stock repurchase program 
approved by Distributing's board of directors.
    (ii) Analysis. The analysis is the same as in paragraph (g)(10)(ii) 
of this section (Example 10). Accordingly, the Federal income tax 
consequences of the ordinary course stock repurchase are determined 
under section 301 or 302 of the Code, and not an operative provision 
described in Sec.  1.368-1(c)(2)(ii). See paragraph (a)(2) of this 
section.
    (12) Example 12: Scope of plan of reorganization--securities-for-
debt exchange--(i) Facts. The facts are the same as in paragraph 
(g)(7)(i) of this section (Example 7), except for the following. As 
part of the contribution, Distributing receives securities from 
Controlled in partial exchange for the assets contributed by 
Distributing to Controlled. Distributing transfers those Controlled 
securities to a creditor of Distributing in a series of transactions 
that satisfies all the requirements set forth in Sec.  1.361-5(a) 
(securities-for-debt exchange). The separation and distribution 
agreement, a resolution adopted by Distributing's board of directors, 
and other official records of Distributing, collectively evidence a 
definite intent, prior to the first step of the separation, to carry 
out each of the transactions comprising the securities-for-debt 
exchange. Consistent with the requirements set forth in Sec. Sec.  
1.361-5(a) and 1.368-3(a)(5), Distributing identifies the historical 
Distributing debt and the qualifying creditor with regard to that 
historical Distributing debt, prior to the first step of the plan of 
reorganization that includes the separation.
    (ii) Analysis. The securities-for-debt exchange is properly 
included in the plan of reorganization for the separation because the 
exchange satisfies all conditions required by paragraph (e) of this 
section. First, as substantiated by the separation and distribution 
agreement and other official records of Distributing, Distributing 
evidences a definite intent, prior to the first step of the plan of 
reorganization, to carry out the securities-for-debt exchange. See 
paragraph (e)(1)(i) of this section. Second, the securities-for-debt 
exchange would not occur but for the separation, as evidenced by the 
separation and distribution agreement and other official records of 
Distributing. See paragraph (e)(2)(i)(B) of this section. Lastly, the 
securities-for-debt exchange is consistent with, and directly relates 
to, the fit-and-focus corporate business purpose for the separation, 
because it facilitates the elimination of competition for capital 
between the retained and contributed businesses through the 
establishment of an appropriate post-separation capital structure for 
each of those businesses. See paragraph (e)(3) of this section. 
Accordingly, based on the correct and properly filed plan of 
reorganization pursuant to Sec.  1.368-3(a)(5), the Federal income tax 
consequences of the securities-for-debt exchange are determined under 
an operative provision described in Sec.  1.368-1(c)(2)(ii). See 
paragraph (a)(2) of this section.
    (13) Example 13: Scope of plan of reorganization--dispositions of 
retained stock--(i) Facts. The facts are the same as in paragraph 
(g)(7)(i) of this section (Example 7), except for the following. On 
September 30, 2025, Distributing distributes to its shareholders 80 
percent of the outstanding Controlled stock, constituting a control 
distribution. With regard to the retained stock, the separation and 
distribution agreement and other official records of Distributing 
provide that Distributing will transfer the retained stock to a 
creditor of Distributing in a stock-for-debt exchange that satisfies 
the requirements set forth in Sec. Sec.  1.361-5(a) and 1.368-3(a)(5) 
(stock-for-debt exchange). The separation and distribution agreement 
and those other

[[Page 5294]]

official records also provide that, to the extent the retained stock is 
not disposed of in the stock-for-debt exchange, Distributing will 
distribute that retained stock to Distributing's shareholders (follow-
on spin-off). Lastly, the separation and distribution agreement 
provides that, to the extent the retained stock is not disposed of 
after Distributing succeeds or fails in completing the stock-for-debt 
exchange and follow-on spin-off, Distributing will sell the retained 
stock on the open market by not later than five years after the first 
distribution date (open-market sale). Distributing describes these 
contingent commitments in its plan of reorganization filed with the IRS 
pursuant to Sec.  1.368-3(a)(5).
    (ii) Analysis--(A) Stock-for-debt exchange. The stock-for-debt 
exchange is properly included in the plan of reorganization for the 
separation because the exchange satisfies all conditions required by 
paragraph (e) of this section. First, as substantiated in the 
separation and distribution agreement, in which Distributing expresses 
that it will carry out the stock-for-debt exchange, Distributing 
evidences a definite intent, prior to the first step of the plan of 
reorganization, to carry out the stock-for-debt exchange. See paragraph 
(e)(1) of this section. The satisfaction of this requirement is not 
affected by the fact that Distributing might engage in the follow-on 
spin-off or the open-market sale to dispose of all the retained stock 
in the event that the stock-for-debt exchange does not result in a 
total disposition of that stock, because Distributing is committed in 
writing in one or more of its official records to attempt to complete 
the exchange. See paragraph (e) of this section. Second, the stock-for-
debt exchange would not occur but for the separation, as evidenced by 
the separation and distribution agreement. See paragraph (e)(2)(i)(B) 
of this section. Lastly, the stock-for-debt exchange is consistent 
with, and directly relates to, the fit-and-focus corporate business 
purpose for the separation, because it facilitates the elimination of 
competition for capital between the retained and contributed businesses 
through the establishment of an appropriate post-separation capital 
structure for each of those businesses. See paragraph (e)(3) of this 
section. Accordingly, based on the correct and properly filed plan of 
reorganization pursuant to Sec.  1.368-3(a)(5), the Federal income tax 
consequences of the securities-for-debt exchange are determined under 
an operative provision described in Sec.  1.368-1(c)(2)(ii). See 
paragraph (a)(2) of this section.
    (B) Follow-on spin-off. The follow-on spin-off is properly included 
in the plan of reorganization for the separation because that 
distribution satisfies all conditions required by paragraph (e) of this 
section. First, as substantiated by the separation and distribution 
agreement, in which Distributing expresses that it will carry out the 
follow-on spin-off, Distributing evidences a definite intent, prior to 
the first step of the plan of reorganization, to carry out the follow-
on spin-off. See paragraph (e)(1) of this section. The satisfaction of 
this requirement is not affected by the contingency arising from the 
fact that Distributing commits to first attempt to carry out the stock-
for-debt exchange, because Distributing commits in writing in one or 
more of its official records to carry out the follow-on spin-off in the 
event that the stock-for-debt exchange does not occur or does not 
result in the disposition by Distributing of all the retained stock. 
See paragraph (e) of this section. For the same reason, the 
satisfaction of this requirement is not affected by the fact that 
Distributing ultimately might engage in the open-market sale to dispose 
of all the retained stock, in the event that the follow-on spin-off 
does not result in a total disposition of that stock. See paragraph (e) 
of this section. In addition, the follow-on spin-off would not occur 
but for the separation, as evidenced by the separation and distribution 
agreement. See paragraph (e)(2)(i) of this section. Lastly, the follow-
on spin-off is consistent with, and directly relates to, the fit-and-
focus corporate business purpose for the separation because it would 
further the separation of the retained and contributed businesses. See 
paragraph (e)(3) of this section. Accordingly, based on the correct and 
properly filed plan of reorganization pursuant to Sec.  1.368-3(a)(5), 
the Federal income tax consequences of the follow-on spin-off are 
determined under an operative provision described in Sec.  1.368-
1(c)(2)(ii) (that is, section 361). See paragraph (a)(2) of this 
section.
    (C) Open-market sale. The open-market sale is properly included in 
the plan of reorganization for the separation because that sale 
satisfies all conditions required by paragraph (e) of this section. 
First, as evidenced by the separation and distribution agreement and 
other official records of Distributing, in which Distributing expresses 
that it will carry out the open-market sale, Distributing evidences a 
definite intent, prior to the first step of the plan of reorganization, 
to carry out the open-market sale. See paragraph (e)(1) of this 
section. The satisfaction of this requirement is not affected by the 
contingency that Distributing commits to first attempt to carry out the 
stock-for-debt exchange and then the follow-on spin-off, because 
Distributing commits in writing in one or more of its official records 
to carry out the open-market sale in the event that the stock-for-debt 
exchange and the follow-on spin-off, taken together or on their own, do 
not occur or do not result in the disposition by Distributing of all 
the retained stock. See paragraph (e) of this section. In addition, the 
open-market sale is necessary to satisfy one or more of the 
requirements of a definitional provision described in Sec.  1.368-
1(c)(2)(i) intended to apply to the reorganization. See paragraph 
(e)(2)(i)(A) of this section. Lastly, the open-market sale is 
consistent with, and directly relates to, the fit-and-focus corporate 
business purpose for the separation because it would further the 
separation of the retained and contributed businesses. See paragraph 
(e)(3) of this section. Accordingly, based on the correct and properly 
filed plan of reorganization pursuant to Sec.  1.368-3(a)(5), the open-
market sale is taken into account along with the contribution and 
distribution for determining the Federal income tax consequences of the 
separation under sections 355 and 368(a)(1)(D) (that is, the relevant 
definitional and operative provisions described in Sec.  1.368-
1(c)(2)(i) and (ii)). See paragraph (a)(2) of this section.
    (14) Example 14: Scope of plan of reorganization--dispositions of 
retained stock--(i) Facts. The facts are the same as in paragraph 
(g)(13)(i) of this section (Example 13), except for the following. With 
regard to the retained stock, the separation and distribution agreement 
and other official records of Distributing provide that Distributing 
might transfer the retained stock to a creditor of Distributing in a 
stock-for-debt exchange that satisfies the requirements set forth in 
Sec. Sec.  1.361-5(a) and 1.368-3(a)(5) (stock-for-debt exchange). The 
separation and distribution agreement and other official records of 
Distributing also provide that Distributing might distribute that 
retained stock to Distributing's shareholders (follow-on spin-off). 
Lastly, those documents provide that, to the extent the retained stock 
is not disposed of after Distributing succeeds or fails in completing 
the stock-for-debt exchange and follow-on spin-off, Distributing will 
sell the retained stock on the open market by not later than five years 
after the first distribution date (open-market sale). Distributing 
describes these

[[Page 5295]]

contemplated possibilities of carrying out the stock-for-debt exchange 
and follow-on spin-off, as well as its written commitment to carry out 
the open-market sale, in its plan of reorganization filed with the IRS 
pursuant to Sec.  1.368-3(a)(5).
    (ii) Analysis--(A) Stock-for-debt exchange. The stock-for-debt 
exchange is properly excluded from the plan of reorganization for the 
separation because the exchange fails to satisfy all conditions 
required by paragraph (e) of this section. Specifically, as evidenced 
by the separation and distribution agreement and other official records 
of Distributing, Distributing treats the occurrence of the stock-for-
debt exchange as a contemplated possibility, thereby failing to 
evidence a definite intent to carry out the transaction. See paragraph 
(e)(1)(iii) of this section. Accordingly, as corrected by the 
Commissioner, the securities-for-debt exchange is excluded from the 
taxpayer's plan of reorganization (and therefore section 361(c), the 
otherwise relevant operative provision described in Sec.  1.368-
1(c)(2)(ii), does not apply). See paragraph (a)(2)(ii) of this section.
    (B) Follow-on spin-off. The analysis is the same as in paragraph 
(g)(14)(ii)(A) of this section (Example 14). Therefore section 361(c), 
the otherwise relevant operative provision described in Sec.  1.368-
1(c)(2)(ii), does not apply.
    (C) Open-market sale. The open-market sale is properly included in 
the plan of reorganization for the separation because the sale 
satisfies all conditions required by paragraph (e) of this section. 
First, as substantiated by the separation and distribution agreement, 
in which Distributing expresses that it will carry out the open-market 
sale, Distributing evidences a definite intent, prior to the first step 
of the plan of reorganization, to carry out the open-market sale. See 
paragraph (e)(1) of this section. The satisfaction of this requirement 
is not affected by the contingency created by Distributing's 
contemplation of carrying out the stock-for-debt exchange and the 
follow-on spin-off, because Distributing commits in writing in one or 
more of its official records to carry out the open-market sale in the 
event that the stock-for-debt exchange and the follow-on spin-off, 
taken together or on their own, do not occur or do not result in the 
disposition by Distributing of all the retained stock. See paragraph 
(e) of this section. In addition, the open-market sale is necessary to 
satisfy one or more of the requirements of a definitional provision 
described in Sec.  1.368-1(c)(2)(i) intended to apply to the 
reorganization. See paragraph (e)(2)(i)(A) of this section. Lastly, the 
open-market sale is consistent with, and directly relates to, the fit-
and-focus corporate business purpose for the separation because it 
would further the separation of the retained and contributed 
businesses. See paragraph (e)(3) of this section. Accordingly, based on 
the correct and properly filed plan of reorganization pursuant to Sec.  
1.368-3(a)(5), the open-market sale is taken into account along with 
the contribution and distribution for determining the Federal income 
tax consequences of the separation under the relevant definitional 
provisions described in Sec.  1.368-1(c)(2)(i). See paragraph (a)(2) of 
this section.
    (15) Example 15: Scope of plan of reorganization--dispositions of 
retained stock--(i) Facts. The facts are the same as in paragraph 
(g)(14)(i) of this section (Example 14), except for the following. With 
regard to the retained stock, the separation and distribution agreement 
and other official records of Distributing provide that the open-market 
sale also is a contemplated possibility, rather than subject to a 
written commitment by Distributing.
    (ii) Analysis--(A) Stock-for-debt exchange. The analysis is the 
same as in paragraph (g)(14)(ii)(A) of this section (Example 14).
    (B) Follow-on spin-off. The analysis is the same as in paragraph 
(g)(14)(ii)(B) of this section (Example 14).
    (C) Open-market sale. The open-market sale is properly excluded 
from the plan of reorganization for the separation because the open-
market sale fails to satisfy all conditions required by paragraph (e) 
of this section. Specifically, as evidenced by the separation and 
distribution agreement and other official records of Distributing, 
Distributing treats the occurrence of the open-market sale as a 
contemplated possibility, thereby failing to evidence a definite intent 
to carry out the transaction. See paragraph (e)(1)(iii) of this 
section. Accordingly, the open-market sale is not taken into account 
for purposes of satisfying the relevant definitional provision 
described in Sec.  1.368-1(c)(2)(i), pursuant to a plan of 
reorganization corrected by the Commissioner. See paragraph (a)(2)(ii) 
of this section.
    (h) Applicability date. This section applies to transactions 
intended to qualify under section 368 of the Code for which the 
earliest of the following dates occurs after [date of publication of 
final regulations in the Federal Register]:
    (1) The date of the first public announcement (as defined in Sec.  
1.355-7(h)(10)) of the transaction.
    (2) The date of entry by the taxpayer into a written agreement to 
engage in the transaction.
    (3) The date of approval of the transaction by the board of 
directors of the taxpayer.
    (4) The date of a court order (or a plan confirmed, or a sale 
approved, by order of a court) in a title 11 or similar case (as 
defined in section 368(a)(3)(A) of the Code), but only if the taxpayer 
was a debtor in a case before such court.
    (5) The date a ruling request for the transaction is submitted to 
the IRS.

Douglas W. O'Donnell,
Deputy Commissioner.
[FR Doc. 2025-00321 Filed 1-13-25; 4:15 pm]
BILLING CODE 4830-01-P`