The Internal Revenue Service recently adopted long-awaited regulations intended to provide a new means of minimizing taxes in M&A transactions. The newly adopted regulations take effect on May 15, 2013, under Section 336(e) of the Internal Revenue Code.

The Section 336(e) regulations provide a new election for the parties in M&A transactions to choose between paying tax on a sale of assets or on a sale of stock when stock is sold to an unrelated party or distributed to shareholders in a taxable transaction. The new rules supplement the longstanding Section 338(h)(10) regulations in enabling parties to minimize M&A-related taxes.

The new election will be available in transactions in which the purchaser is not a corporation (such as transactions involving a private equity fund buyer); such an election is not an option under Section 338(h)(10), which requires a corporate purchaser. Where a transaction involves a corporate purchaser, Section 338(h)(10) must still be used.

The regulations also make it easier to enter into “Morris Trust” transactions, in which a subsidiary is spun off without tax to shareholders as part of a prearranged plan to sell the parent company to a corporate or noncorporate buyer. A corporate tax will still be due from the parent corporation on the spin-off. The parties may elect, however, to calculate the tax as if the transaction were a sale of assets so that the buyer will not have to pay a second tax if it chooses to sell off part of the parent's assets after the acquisition.

Unlike the Section 338(h)(10) election, the 336(e) election is made through a binding agreement between the seller and the acquired corporation and the attachment of an election statement to the relevant returns. Because the Section 336(e) election does not require the consent of the purchaser, a buyer in a stock acquisition will need to require appropriate representations, warranties, and covenants from the seller as to whether the agreement and election will or will not be made.

If you have questions about the new Section 336(e) regulations, please contact Wayne R. Strasbaugh at 215.864.8328 or strasbaugh@ballardspahr.com, Karen C. McConnell at 602.798.5403 or mcconnellk@ballardspahr.com, or Craig Circosta at 215.864.8520 or circostac@ballardspahr.com.