In Revenue Ruling 2008-18, the Internal Revenue Service (IRS) provides guidance on the continuation of an S corporation election and the need for a new employer identification number (EIN) when an S corporation uses a tax-free reorganization to create a holding company structure.
Corporations often create a holding company structure pursuant to which the operating corporation becomes a wholly owned subsidiary of a newly formed holding corporation. For tax purposes, the holding company structure often is created through a tax-free reorganization under Section 368(a)(1)(F) of the Internal Revenue Code of 1986 (a so-called “F” reorganizations).
Revenue Ruling 2008-18 sets forth two situations in each of which an S corporation creates a holding company structure using an “F” reorganization. In the S corporation holding company structure, a newly formed corporation becomes the holding company. The S election for the existing S corporation continues for the newly formed corporation. The original S corporation becomes a wholly owned subsidiary of the newly formed corporation. The original S corporation, now a wholly owned subsidiary of the newly formed corporation, qualifies as a qualified subchapter S subsidiary (QSub), and the newly formed corporation, which is now an S corporation, makes a QSub election for the original S corporation. QSubs are disregarded entities for most Federal tax purposes. In the resulting structure, the operating assets are in the QSub with the S corporation (the newly formed corporation) holding the stock of the QSub (the original S corporation).
The general rule in the regulations is that a QSub must use the EIN of its “parent” S corporation. This rule would apply, for example, if an S corporation formed a subsidiary corporation for which it made a QSub election. The regulations also provide, however, that any entity that has an EIN will retain that EIN if a QSub election is made for the entity or if a QSub election that was in effect for an entity that was using its “parent” S corporation’s EIN terminates. The Revenue Ruling illustrates these rules in the two situations.
In Situation 1, B, the sole shareholder of Y, an S corporation, forms Newco in Year 1, and contributes all the Y stock to Newco. B becomes the sole shareholder of Newco, and Newco becomes the sole shareholder of Y. Newco meets the requirements for qualification as a small business corporation (a corporation eligible for an S election), and timely elects to treat Y as a QSub. The transaction meets the requirements of an “F” reorganization. In Year 2, Newco sells a one percent interest in Y to D.
Revenue Ruling 2008-18 reaches two holdings with respect to this transaction. First, Y’s original S election does not terminate, but continues for Newco. That is, the S election continues for the newly formed holding company. Even though the S election continues for Newco, Newco must obtain a new EIN. Y must retain its EIN, even though a QSub election is made for it (thereby making it a disregarded entity). It must use its original EIN any time the QSub is otherwise treated as a separate entity for Federal tax purposes (including for employment and certain excise taxes) or if the QSub election terminates. Y must use the original EIN following the termination of Y’s QSub election upon the sale of a one percent interest in Y to D.
In Situation 2, C is the sole shareholder of Z, an S corporation. In Year 1, Z forms Newco, which in turn forms Mergeco. Pursuant to a plan of reorganization, Mergeco mergers with and into Z, with Z surviving and C receiving solely Newco stock in exchange for Z stock. As a result of the transaction, C becomes the sole shareholder of Newco and Newco becomes the sole shareholder of Z. Newco meets the requirements for a qualified small business corporation, and timely elects to treat Z as a QSub, effective immediately following the transaction. The transaction meets the requirements of an “F” reorganization.
The Revenue Ruling reaches the same two holdings for this transaction. Z’s original S election does not terminate but continues with Newco. Newco must obtain a new EIN. Z must retain its EIN, and use its original EIN any time the QSub is otherwise treated as a separate entity for Federal tax purposes (including for employment and certain excise taxes) or if the QSub election terminates.
The Revenue Ruling applies to “F” reorganizations occurring on or after January 1, 2009. For “F” reorganizations occurring after March 7, 2008, and before the effective date of the Revenue Ruling, taxpayers may rely on the Revenue Ruling. The Revenue Ruling acknowledges that, before its effective date, some S corporations have undergone “F” reorganizations in a manner similar to those described in Situations 1 and 2 in which the acquiring corporation continued to use the transferor corporation’s EIN in an effort to comply with Revenue Ruling 73-526, 1973-2 C.B. 404. In these cases, the Revenue Ruling provides that the acquiring corporation should continue to follow Revenue Ruling 73-536, and use the transferor corporation’s EIN until such time as the transferor (QSub) is otherwise treated as a separate corporation for Federal tax purposes (including for employment and certain excise taxes) or until such time that the QSub terminates. At such time, the QSub must obtain a new EIN.