U.S. Proposes Further Limits On Spinoffs

Spinoffs or splitoffs are commonly sought by shareholder activists of public companies to increase shareholder value. Such proposals assume the tax-free nature of the transaction, because a taxable transaction could involve tax to both the distributing corporation (Distributing) and its shareholders. Under intercompany agreements, the distributed corporation (Controlled) may also assume the obligation for the corporate level tax (particularly if its actions later trigger the tax). Yet there are many hurdles to tax-free spinoffs and splitoffs that must meet a host of rigorous requirements set forth in the Internal Revenue Code (Code), Treasury regulations and case law. One of those requirements is that Distributing and Controlled each hold a qualifying five-year active business immediately after the transaction (Active Business Test); another requirement is that the transaction not be used as a mere device for the distribution of earnings and profits (Device Test).¹ We