Internal Revenue Service
Revenue Ruling

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 Rev. Rul. 68-77

1968-1 C.B. 289

Sec. 584

IRS Headnote

The Internal Revenue Service discusses the Federal income tax consequences of a division of a common trust fund into two common trust funds and describes the subtraction method for allocating a participant's basis for its units of participation in the original fund to its units of participation in the separate funds.

The subtraction method of allocation may be used if the total adjusted basis of the assets transferred to either fund is `very close' to the total fair market value of those assets at the time of division of the fund.

Full Text

Rev. Rul. 68-77

Advice has been requested with respect to the Federal income tax consequences of a division of a common trust fund into two common trust funds under the circumstances described below.

The A-B fund, a common trust fund as described in section 584 of the Internal Revenue Code of 1954, with assets consisting entirely of common and preferred stocks, bonds, and cash, was divided into two common trust funds by transferring all of the common stocks and a portion of the cash to fund A , and all the preferred stocks, bonds, and the remainder of the cash to fund B . Each participant received one unit of participation in fund A and one unit of participation in fund B in exchange for each of its units of participation in the A-B fund. At the time of the division and exchange, the fair market value of the assets transferred to fund B (other than cash) was three percent less than the adjusted basis of those assets in the A-B fund.

The Federal income tax consequences of the division of the A-B fund are as follows:

The division of the A-B fund in the manner described will not result in gain or loss, either to the fund or to its participants, because neither the fund nor its participants acquired any new property rights as a result of the division.

The assets transferred to fund A and fund B retain the same basis in those funds as they had in the A-B fund immediately prior to the division. The holding periods for the assets transferred to fund A and fund B include the periods during which they were held by the A-B fund. The basis to each participant for its units of participation in each of the two new funds is an allocable part of the adjusted basis of its units of participation in the A-B fund.

An acceptable method for allocating a participant's basis in its units of participation in the original A-B fund to its units of participation in the separate funds, A and B , is one referred to as the `subtraction' method. This method may be used only where the dividing fund's adjusted basis for either (a) its common stocks, or (b) its preferred stocks and bonds, is very close to the fair market value of those assets on the division date. For example, if the A-B fund's adjusted basis for the preferred stocks and bonds is very close to the fair market value of those assets at the time of the division, and the subtraction method is to be used, the adjusted basis to each participant for each of its units of participation in the new fund B is determined in the following manner. First, divide the A-B fund's total adjusted basis for its preferred stocks and bonds, plus the amount of the cash allocated to fund B , by the total number of units of participation in the A-B fund outstanding at the time of its division. The result will be a participant's adjusted basis for a unit in fund B . However, in no case may a participant's adjusted basis for a unit in fund B be greater than its total adjusted basis in the original A-B fund. Then, the adjusted basis to a participant of each of its units in the new fund A is computed by subtracting the figure thus obtained as the basis of a unit in fund B from the participant's adjusted basis of a unit in the original A-B fund.

In this case, the A-B fund's adjusted basis in the assets transferred to fund B is `very close' to their fair market value on the division date.

Accordingly, participants in the A-B fund may use the subtraction method of allocating the basis of their units of participation in the original fund to their units of participation in the new funds.