The following article is adapted and reprinted from the M&A Tax Report, Vol. 10, No. 3, October 2001, Panel Publishers, New York, NY.


By Robert W. Wood

A Field Service Advice has concluded that a company's contingent liability transaction does not qualify as a section 351 exchange. In Field Service Advice 200134008, Tax Analysts Document Number 2001-22468, 2001 TNT 155-15, the company was the parent of an affiliated group with several subsidiaries. The parent sought a way to control rising benefits costs. One of the subsidiaries issued voting preferred stock with "optional redemption", and put provisions.

The parent purchased the preferred stock with a promissory note, and the subsidiary assumed the parent's and another sub's benefits liabilities, although the parent agreed to perform services to handle all matters relating to the liabilities. The parent then sold the preferred stock to an insurance company for the amount equal to the difference between the face value of the promissory note and the liabilities assumed by the subsidiary.

The parent reported that the benefits obligateds were not a liability for purposes of section 358(d)(1) because of their contingent character. IRS area counsel asserted that the transaction had no economic basis and was used only to create a capital loss carryback to offset capital gains.

The IRS agreed, noting that the transaction is substantially similar to the one described in Notice 2001-17, 2001-9 IRB 730. Although the parent's transaction was entered into before Notice 2001-17, the Service determined that the claimed loss on the disposition of the stock should be disallowed for the reasons set forth in Notice 2001-17. The transaction failed to satisfy the technical requirements of Section 351, and lack a bona fide business purpose.

Contingent Liability Transaction Fails Exchange Test, Vol. 10, No. 3, The M&A Tax Report (October 2001), p. 8.