Determining Public Overlapping Shareholders in RMT Transactions

In a recent private letter ruling (PLR 20190004, released on March 8, 2019), the IRS continued its recent trend of taking a practical approach in allowing public companies to rely on publicly filed information to determine common, overlapping ownership for purposes of the so-called “Reverse Morris Trust” (RMT) change- of-control provisions applicable to tax-free spinoffs. 

For a spinoff to be tax-free, among other requirements, the spinoff must not be part of a plan that involves a change of control of either the distributing or spun off corporation (Spinco).1 Accordingly, if Spinco merges with another larger corporation as part of a plan that includes the spinoff (an RMT transaction), the spinoff will generally run afoul of this requirement since the shareholders of the other larger corporation would typically own more than half of the stock of the combined corporation. 

However, in determining whether a change of control has occurred for this purpose, the tax code generally looks to the ultimate shareholders of Spinco by applying certain indirect stock ownership attribution rules.  Therefore, it is possible for Spinco to combine with another larger corporation in an RMT transaction if some of the Spinco shareholders are also shareholders of the other larger corporation.  The reason for this is that the stock of the combined corporation received by a Spinco shareholder by reason of its prior ownership of the other larger corporation can offset any ownership percentage reduction that the Spinco shareholder would have otherwise experienced by reason of the merger.     

In the context of public companies, however, it can be difficult to know for certain who the shareholders are.  Because the shares are widely held through intermediaries, the corporations do not have direct, actual knowledge of the composition of their shareholder base.  Further, even if a corporation would be permitted to rely on generally available information regarding the makeup of its shareholder base, it would be difficult if not impossible for the corporation to know the exact percentage ownership interest of any particular shareholder at the critical moment in time when the merger occurs.  This is because most shareholders that disclose their ownership only do so on a periodic basis, such as month or quarter end, rather than on a daily basis. 

That’s where the IRS has stepped up in a number of recent private letter rulings and provided practical guidance to the taxpayers.  First, in these rulings, the IRS permitted companies to rely on ownership information included in their shareholders’ public filings absent actual knowledge that the information was inaccurate.  One ruling (PLR 201740015) even went so far as to expressly permit reliance on information posted on the portion of a shareholder’s website that is generally available to the public.

Second, the IRS permitted the taxpayers to rely on information regarding a particular shareholder’s ownership as of a different day than the day of the merger.  In the more recent PLRs, the IRS permitted the taxpayers to take into account a shareholder’s disclosure as of the closest point in time before the merger.  This permitted the taxpayers to take into account shareholder overlap information even for shareholders that do not provide daily ownership information.  These more recent rulings expand on PLR 201740015 (mentioned above) where the IRS first embarked on this practical approach, albeit in a slightly less favorable manner where the IRS required the taxpayer to look at available information as of the closest points in time before and after the merger and to use the lower ownership overlap of the two.

Based on the recent IRS trend of favorable and practical private rulings in this area, public companies considering RMT transactions that would need to rely on shareholder overlap to avoid a change of control should approach the IRS for a ruling.     

Endnotes    (↵ returns to text)
  1. For this purpose, a change of control occurs if one or more persons acquire 50% or more of the Spinco stock.