Rev. Rul. 76-527

Advice has been requested whether the "business purpose" requirement of section 1.355-2(c) of the Income Tax Regulations is satisfied in the following transaction, which is otherwise qualified under section 355 of the Internal Revenue Code of 1954 and the regulations thereunder.

X corporation and Y corporation have been engaged in the active conduct of a construction materials production business and a television broadcasting business, respectively, for the last five years. The stock of X is widely held by the public. X has owned all the outstanding stock of Y since it was organized. The construction materials production business accounts for 80 percent of the combined revenue and profits of X and Y. Based upon advice from its investment analysts, management of X believes that the investment community considers X to be only a construction materials producer. Management of Y has been actively negotiating for the acquisition of the television broadcasting properties of an unrelated corporation, Z. Z's management, however, has indicated an unwillingness to accept Y stock as consideration, since Y is controlled by a corporation whose business is unrelated to television broadcasting.

Thus, X proposes to distribute all of the Y stock, pro rata, to the X shareholders. This distribution will enable the television broadcasting business to use its own stock to make acquisitions in its expansion efforts.

Section 355 of the Code provides, in general, for the tax-free distribution by a corporation to its shareholders of the stock of a controlled subsidiary. For this purpose "control" means, in general, ownership of at least eighty percent of the voting stock and at least eighty percent of the nonvoting stock of a corporation.

Section 1.355-2(c) of the regulations provides that a distribution by a corporation of stock of a controlled corporation will not qualify under section 355 of the Code where carried out for purposes not germane to the business of the corporations, and that the distribution must be incident to a readjustment of corporate structures required by business exigencies.

In order to allow Y to use its own stock in the acquisition of the assets of Z it was necessary to separate the television broadcasting business of Y from the dominant reputation of the construction materials production business of X in the investment community.

Therefore, the pro rata distribution by X of the Y stock to the X shareholders will be considered to be carried out for purposes germane to the business of the corporations within the contemplation of section 1.355-2(c) of the regulations.