Internal Revenue Service
Revenue Ruling
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smRev. Rul. 79-52
1979-1 C.B. 283
Section 1375
IRS Headnote
Small business corporations; merger; nondividend distributions. The surviving corporation of a statutory merger of two small business corporations may make nondividend distributions under section 1375(d) of the Code of the merging corporation's undistributed previously taxed income and, under section 1375(f), of the merging corporation's undistributed taxable income attributable to its final taxable year that ended on the merger date, if such distributions are made within the period specified in section 1375(f).
Full Text
Rev. Rul. 79-52
ISSUE
What is the effect of a merger on the treatment of undistributed previously taxed income and undistributed taxable income of an electing small business corporation under the circumstances described below?
FACTS
X and Y, electing small business corporations as defined in section 1371 of the Internal Revenue Code of 1954, merged in a statutory merger pursuant to section 368(a)(1)(A) whereby X was the surviving corporation. Prior to the merger all of the stock of X and Y was owned by individuals, A and B, in equal proportions. After the merger A and B each owned 50 percent of the stock of X. On the date of the merger Y had 20x dollars of undistributed previously taxed income and 100x dollars of undistributed taxable income.
LAW
Section 1372(a) of the Code allows a small business corporation, as defined in section 1371, to elect not to be subject to the tax imposed by chapter 1 of the Code, but to have all its income taxed directly to its shareholders whether or not the income is distributed to its shareholders.
Section 1372(d) of the Code provides that an election under section 1372(a) shall be effective for the taxable year of the corporation for which it is made and for all succeeding taxable years of the corporation unless the election is terminated with respect to any such taxable year under section 1372(e).
Section 1375(d)(1) of the Code provides that an electing small business corporation may make a distribution to any shareholder, in accordance with regulations prescribed by the Secretary of the Treasury, of any portion of the shareholder's net share of the corporation's undistributed taxable income for taxable years prior to the taxable year in which the distribution is made. This section further provides that any such distribution shall be a distribution that is not a dividend and that the earnings and profits of the corporation will not be reduced by reason of such distribution.
Section 1375(f)(1) of the Code provides that any distribution of money made by a corporation after the close of a taxable year with respect to which it was an electing small business corporation and on or before the 15th day of the third month following the close of such taxable year to a person who was a shareholder of such corporation at the close of the taxable year will be treated as a distribution of the corporation's undistributed taxable income for such year, to the extent such distribution (when added to the sum of all prior distributions of money made to such person by such corporation following the close of such year) does not exceed such person's share of the corporation's undistributed taxable income for such year. Any distribution so treated will be considered a distribution that is not a dividend, and the earnings and profits of the corporation will not be reduced by reason of such distribution.
Section 1.1375-4(e) of the Income Tax Regulations provides that a shareholder's right to nondividend distributions is personal and cannot be transferred to another.
Rev. Rul. 69-566, 1969-2 C.B. 165, holds that the election and taxable year of a small business corporation are not terminated where, in a statutory merger pursuant to section 368(a)(1)(A) of the Code, it acquires the assets of a corporation that is not an electing small business corporation.
Rev. Rul. 64-94, 1964-1 (Part 1) C.B. 317, holds that the merger of an electing small business corporation into a corporation that is not an electing small business corporation, pursuant to section 368(a)(1)(A) of the Code, does not terminate the electing small business corporation's election under section 1372 with respect to its final taxable year ending on the date of the merger.
Rev. Rul. 70-232, 1970-1 C.B. 178, holds that the statutory consolidation of two electing small business corporations into a new corporation does not terminate the elections of the corporations for their respective taxable years, which ended on the date of consolidation.
HOLDING
The right of Y to make a nondividend distribution of the 20x dollars under section 1375(d) of the Code carries over to X, whose subchapter S election is not terminated by the merger. Therefore, following the merger A and B are entitled to receive, under section 1375(d), their net share of Y's undistributed previously taxed income of 20x dollars in a nondividend distribution from X. Further, X may, under section 1375(f), make postmerger nondividend distributions to A and B of the 100x dollars of undistributed taxable income of Y attributable to Y's final taxable year that ends on the date of the merger, if the distributions are made before the 15th day of the third month following the date of the merger.