![]() ![]() The issue in this letter ruling was whether the partial cash and stock exchange constituted a covered transaction within one of the classifications provided in the regulations. This transaction was considered to be both a taxable acquisition leading to gain recognition, and a non-taxable and qualified exchange under Section 351. The focus of the letter ruling was the second acquisition that resulted from a partial cash and stock exchange. The initial acquisition, involving an all-stock exchange, was not at issue. The remaining subsidiary merged into Company 2 for an exchange consisting partially of cash and Parent stock. One of the merger subsidiaries merged into Company 1 through a one-for-one Parent stock exchange. To effect the acquisition, Parent was formed by Company 1, followed by Parent forming two merger subsidiaries. 9, the transaction at issue was an acquisition of Company 2, by Parent and Company 1. Specifically, costs incurred prior to a definitive decision to proceed with a transaction may be deducted (generally referred to as the bright-line date rule.) 8 For this purpose, the regulations describe covered transactions as: (i) taxable acquisitions of assets that constitute a trade or business (ii) taxable acquisitions of an ownership interest in a business entity if immediately after the acquisition the parties are related and (iii) certain reorganizations. However, the regulations provide a significant exception for costs associated with investigating a transaction defined as a covered transaction. That is, transaction costs that are attributable to services provided in the process of investigating or pursuing one of the ten transaction types are generally considered non-deductible. 7 These regulations provide that capitalization is required for costs that facilitate one of these transactions, and specify that the costs of investigating a transaction are generally considered facilitative. The list of specific transactions includes for example: certain acquisitive transactions 3 debt issuance 4 stock issuance 5 writing an option 6 and a tax-free exchange under Section 351 or 721. §1.263(a)-5(a), a taxpayer must capitalize an amount paid to facilitate any one of ten specified transactions. It is unclear from the ruling whether all hybrid transactions, or merely certain ones, qualify for covered transaction status. Although the ruling provides welcomed insight, it unfortunately does not provide broad guidance regarding the application of the covered transaction rules, which means questions remain for both tax return and provision purposes. While this position could be inferred from previous rulings, this ruling makes the government’s view explicit. The ruling is significant because the Service found that a hybrid transaction, which involved both a taxable acquisition and a non-taxable exchange (here, a Section 351 transaction), qualified as a covered transaction. 2 Covered transactions include various reorganizations and taxable acquisitions the rules generally exclude non-taxable, divisive and other corporate transactions. Under these rules, transaction costs associated with certain "covered" transactions receive favorable tax treatment. 9, 1 which interprets the transaction cost regulations of Treas. The Internal Revenue Service (the Service) recently released Priv.
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