Comments are due on March 17, 2025, for the proposed section 355 regulations issued by the Department of the Treasury and the Internal Revenue Service (IRS) at the end of the Biden administration. The proposed regulations are also subject to the regulatory freeze issued by the current administration, although it is unclear what impact this will have. These proposed regulations expand on prior guidance issued last May: Rev. Proc. 2024-24, which provided revised procedures for taxpayers requesting private letter rulings (PLRs) on tax-free spin-off transactions, and Notice 2024-38, which asked for feedback on certain topics of concern identified by the IRS. The proposed regulations are more flexible in certain areas (e.g., "direct issuance" debt exchanges) but they continue the greater scrutiny of, and skepticism towards, delayed distributions or retentions of controlled corporation stock. In addition, the proposed regulations contemplate a new expansive five-year reporting and documentation requirement to replace the current reporting requirements that apply to the year of the distribution. The early release draft form is available here. The proposed regulations will apply to section 355 transactions occurring the date that the regulations are finalized, with limited exceptions for pending transactions. Though no early reliance is contemplated in the proposed regulations, the IRS has indicated in public comments that the Office of the Chief Counsel intends to update Rev. Proc. 2024-24 to incorporate the proposed regulations and will follow them in issuing PLRs. 

Key areas of interest include the following: 

Delayed Distribution or Retentions of Controlled Stock

The proposed regulations have a rebuttable presumption that any retention (including delayed distributions) of controlled stock by the distributing corporation has a tax avoidance principal purpose and provide a new safe harbor and facts-and-circumstances test to rebut this presumption. 

• The safe harbor, which is not available to privately held controlled companies, requires a specific corporate business purpose for the retention and an intent to dispose of the shares within a five-year period and imposes a two-year limitation on continuing arrangements on non-arm's-length terms and overlapping key personnel, including directors. 
• The facts-and-circumstances test looks to whether there is a genuine separation of the distributing corporation and the controlled corporation. It requires the same business purpose for the retention and factors such as non-arm's length continuing arrangements and overlapping officers and directors will be assessed to determine whether the requisite separation is achieved. 

Debt Exchanges

The proposed regulations reverse the prohibition on direct issuances in the Rev. Proc., reverting to the prior practice of allowing intermediary exchanges of controlled stock or securities for historic distributing debt to be accomplished by both direct issuances and intermediated exchanges. A number of requirements must be satisfied under either approach, but significantly, the proposed regulations appear to require a 30-day holding period.  

Historical Debt

Prior to the Rev. Proc., it was generally permissible to satisfy "historical" distributing debt with cash proceeds from new controlled debt (a boot purge) or controlled stock/securities in a debt exchange. Under the Rev. Proc., "historical" distributing debt that was refinanced after the spin was announced lost its status as "historical" debt. The proposed regulations attempt to reverse this position, but as drafted, the exemption is limited to debt exchanges and would not apply to boot purges. The proposed regulations extend the time for boot purges (12 months vs. 90 days in the Rev. Proc. absent business reasons) but place limits on the types of transactions that qualify.

Plan of Reorganization 

The proposed regulations would impose a set of stringent requirements for a "plan of reorganization" that would apply more broadly to other tax-free reorganizations. The plan is required to be adopted before the first step of the transaction and sets forth a number of detailed requirements with limited opportunities to amend the plan after the first step has occurred.

For more information, please contact:

Layla J. Asali, lasali@milchev.com, 202-626-5866

David W. Zimmerman, dzimmerman@milchev.com, 202-626-5876

Caroline R. Reaves, creaves@milchev.com, 202-626-5939

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