Taxing Corporate Divisions

This paper describes how to simplify the taxation of corporate divisions while remaining faithful to the corporate tax policies of current law. A "corporate division" is a transaction in which a corporate enterprise is separated into two or more corporate pieces. By analogy to the taxation of acquisitive reorganizations, certain divisions should not result in any immediate taxation if the resulting pieces continue to be owned, for the most part, by the same shareholders who owned the enterprise prior to the division. Accordingly, the key condition for tax-free treatment is to prohibit for a period of time an excessive change of ownership in any of the corporate components resulting from the division. Additional conditions include a valid business purpose for the transaction, an active business test, and a control requirement. Existing provisions that could be repealed are the "continuity of interest" requirement, the "device" test, and section 355(d), and section 355(e) would be replaced by the change of ownership condition. Among other things, the paper explains why (1) the meaning and purpose of "continuity of interest" is, and should be, different in the context of acquisitive and divisive transactions, and (2) section 355(e), the much-criticized anti-Morris Trust provision enacted in 1997, was an appropriate change in the law.