Tax Aspects of Corporate Division by W. Eugene Seago

Author:W. Eugene Seago
Language: eng
Format: epub
Publisher: Business Expert Press

Spin-Off of Owner-Occupied Real Estate

Frequently, shareholders realize that it would be preferable to separate the real estate used in the business from the other business assets. Two examples in the regulations are of a bank and its owner-occupied building, but with a portion of the building rented to tenants. In the first example,25 the bank operates its banking operations out of first floor and leases to tenants the other nine floors. The bank employees manage and maintain the property. After 7 years of use in the banking and leasing businesses, the building was transferred to a newly formed corporation and the stock was distributed to the banking corporation shareholders. After the transfer, the building corporation employees managed the building, negotiated leases, sought new tenants, and repaired and maintained the building. The 7 years’ trade or business activities of the real estate business were attributed to the new corporation. Therefore, the spin-off satisfied the active conduct of a trade or business requirement.

In the second example,26 the bank occupied one and one-half stories of its two-story building for its banking business, and the bank rented the remainder of the building to a retailer who used the space for storage. After 9 years of banking and rental use, the bank transferred the building to a corporation and distributed the stock to the bank shareholders. The bank leased the one and one-half floors from the building corporation. Under the lease, the bank (rather than the corporation that owned the building) was responsible for maintaining its portion of the building, paying property taxes and insurance. In this case, the building corporation owned the property and collected the rent but did not perform trade or business activities (e.g., maintenance, seeking tenants); therefore, the building corporation was not conducting a trade or business after the transfer and, as a result, the distribution of the stock was taxable. Note that if the building corporation had performed significant trade or business activities, the bank’s prior use of the building would be a trade or business activity and the 5-year active conduct of a trade or business would have been satisfied.27

Summary and Conclusions

The above discussion distinguished the active conduct of a trade or business from the mere holding an investment for section 355 purposes. The discussion was also directed toward the section 355 trade or business requirement where multiple business activities are conducted inside one corporation and, for a good business purpose, some of these activities are placed in another corporation in exchange for a controlling interest in the transferee corporation. The issues were whether the business history was transferred along with the assets for purposes of determining whether the 5-year active conduct of trade or business requirement was satisfied before the distribution of the stock. Generally, if the activities originated inside the business, in the course of developing the business and are then transferred to a subsidiary in a nontaxable section 351 transaction, the history is also transferred. On the other hand, if a trade or business is purchased,

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