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Do You Know About IRC 368 Tax-Free Reorganization?

IRC Tax-Free Reorganization

Reorganization is a term used when a company changes its structure. A reorganization differs from a merger or acquisition because it does not involve merging two companies. Instead, it consists in changing the legal form of a corporation. Reorganization is also different from liquidating a company because it doesn’t involve selling all of the company’s assets. Reorganization is done to change the corporate structure of a company. For example, if a company wants to expand its operations, it may restructure itself by creating a subsidiary instead of growing through mergers and acquisitions.

The article below has been prepared by a Denver business attorney and tax attorney to discuss a few issues related to tax-free reorganizations.

What Are The Types Of Reorganization?

An acquisitive reorganization occurs when one company buys out another. These transactions are often referred to as “acquirers” and “target companies.” Acquirers may acquire target companies through mergers, acquisitions, asset purchases, stock purchases, or other means. Acquisitions are usually motivated by strategic goals such as growth, expansion, diversification, or cost reduction. Acquirers may seek to achieve these goals through organic development, acquisition, divestiture, or other means.

Acquisitive Reorganization

Acquisition deals are often done through mergers or acquisitions. Mergers are when two companies combine to form a single company. Acquisitions are when two companies combine to create a larger company. Both mergers and acquisitions can be made privately or publicly. A private equity firm usually makes private acquisitions. An investment bank usually makes public acquisitions.

A type B reorganization is when an investor buys out a minority shareholder. If the investor owns more than 50 percent of the shares, then the investor must buy out the remaining shares at fair market value.

A type C reorganization is when a company sells all of its assets to another company. Then the seller liquidates (IRC §368(a)(1)(c)). This is called a boot because the buyer gets a cash infusion.

A type D acquisition occurs when a company buys another company. If the buyer controls 80% of the shares of the acquired company, then the acquirer will be called a Type D Acquirer. A type D acquisition is different from a merger because there is not always a change in ownership. For example, if a company sells 10% of its shares to another company, that does not mean that the original owner of those shares sold them to someone else. Instead, the original owner still owns 90% of the claims.

A triangular reorganization is when a company changes its structure by merging with another company, acquiring another company, or selling a division of itself. These types of reorganizations can be classified as triangular reorganization (excluding reorganization type E), depending on whether there is an intermediary party. Type A involves a target corporation, a corporate parent, and a subsidiary, while type B consists of a target corporation, an investor, and a subsidiary. Type C involves a target corporation, two investors, and a subsidiary.

Divisive Reorganization

A split-off is when a company splits itself into two separate companies. The parent company will buy back its stock from the shareholders, giving them a controlling interest in the new company.

A spin-off is when a parent company sells a portion of itself to create a separate company. A spin-off may involve selling an asset or division of the parent company to another company. For example, a company might sell the factory to another company if it has a manufacturing plant. Or, if a company owns a patent, it might sell the patent to another company.

A split-up is when an existing company splits into two or more smaller companies. This happens when the shareholders vote to dissolve the old company and distribute its assets among the shareholders. Each shareholder receives a share of the new company’s stock. If the shareholders agree to form two or more new companies, then each shareholder will receive a percentage of each new company’s stock.

Restructuring Reorganization

Restructuring is an event that changes the legal structure of a company. It may involve changing the number of shares outstanding, the type of ownership, or the amount of debt. For example, if you own 100% of a company, you might sell your shares to someone else. You could buy out the other half if you own 50% of a company. Or, you could change the debt ratio. You could increase the amount of debt, decrease the amount of equity, or even eliminate the deficit.

A type F restructuring is when you change your legal structure. You could change your name, your address, or even your country. If you move your company to another country, you must file an application with the local government. This is called a type F restructuring.

Bankruptcy Reorganizations

A bankruptcy reorganization is when a company transfers its assets to another company. These events are usually triggered when a company cannot pay all of its debts. Bankruptcy reorganizations are often done because companies need time to restructure their finances and become stronger.

How Does An A Reorganization Work?

A merger occurs when two companies combine forces to form a single company. Mergers usually happen when there is a need for growth or expansion. A merger can also arise when a company wants to acquire another company. When a company merges with another company, the shareholders of each company receive shares of stock in the resulting company. After the merger, the shareholders of the acquired company become shareholders of the acquiring company.

What Are The Requirements Of An A Reorganization?

There are two main reasons why a company might need to restructure itself. One reason is when the company needs to merge with another company. Another reason is when the company wants to change its focus. For example, a company might want to focus more on technology or manufacturing instead of selling products. If the company continues to operate after the restructuring, it will still have the same owners and employees.

In a corporate acquisition, the acquiring company pays the target company a purchase price equal to at least 40 percent of the value of the acquired company’s shares outstanding. The acquiring company does not need to own any of the acquired company’s stock to satisfy the 40% rule. Instead, the acquirer can pay cash or debt to buy the target company’s shares. If the acquirer buys all of the target company’s shares, the acquirer will have to pay at least 40 percent of its equity capital. However, suppose the acquirer buys less than 100 percent of the target company’s stock. In that case, the acquirer must pay at least 40 percent out of its equity capital plus the amount of the difference between what the acquirer pays and the minimum percentage required. For example, if an acquirer pays $10 per share for a target company with 200 million shares outstanding, then the acquirer needs to spend at least $40 per share ($20 + $20 $40) to meet the 40% requirement.


In the above scenario, company A acquires company B for $150,00. At least $60k must be stock of A, and the remaining $90k could be anything. Company B receives the money from A and then liquidates it. The consideration provided by A is distributed to the shareholders in a tax-free transaction. Depending on whether $90k is stock or other property, there may be tax consequences for the shareholders of B.

When you consider a tax-free reorganization, keep in mind that there are different types of considerations that may qualify for tax-free treatment. For example, if you are going through bankruptcy, you will not be able to claim any tax-free treatment. However, if you want to sell your company, you might be able to claim tax-free treatment. 

Still Have Questions? Call Us

Speak with an experienced Colorado Business Attorney or Tax Attorney about what options are available to you. Contact The McGuire Law Firm at 720-833-7050 to discuss your situation.

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