rr-03-18.pdf

Preserve advance releases and the authoritative Internal Revenue Bulletin rendition; directory timestamps are file-publication metadata, not legal effective dates. HTML bulletins begin June 2003; earlier available issues require full PDF parsing.

This collection currently includes the publisher’s available advance-release directory. Historical bulletin renditions are discovered separately; an advance-release record alone does not certify the collection archive complete.

Part I

Section 355.–Distribution of Stock and Securities of a Controlled Corporation

26 CFR 1.355-3: Active conduct of a trade or business.

Rev. Rul. 2003-18

ISSUE
Whether the acquisition by a dealer engaged in the sale and service of brand X
automobiles of a franchise to sell and service brand Y automobiles and the assets to
operate the franchise constitutes an expansion of the brand X business rather than the
acquisition of a new or different business under § 1.355-3(b)(3)(ii) of the Income Tax
Regulations.
FACTS
Corporation D has been engaged under a dealer franchise in the sale and
service of brand X automobiles since Year 1. For over five years before Year 8, these
operations had been carried on in two buildings (L and M) within the same city. In Year
8, D acquired a franchise for the sale and service of brand Y automobiles and
purchased the inventories, equipment, and leasehold of a former brand Y automobile
dealer who operated in a building adjoining D’s building L. Shortly thereafter, D
relocated the inventory of brand X automobiles from building L to building M.

Thereafter, D used building M exclusively for the sale and service of brand X
automobiles and used building L and the adjoining leasehold exclusively for the sale
and service of brand Y automobiles.
In Year 10, D transferred all of the assets, including building M, and liabilities of
the brand X automobile dealership to a new corporation, C, in exchange for the stock of
C, and distributed the stock of C pro rata to its shareholders.
LAW AND ANALYSIS
Section 355(a) of the Internal Revenue Code provides that a corporation may
distribute stock and securities in a controlled corporation to its shareholders and
security holders in a transaction that will not cause the distributees to recognize gain or
loss, provided that, among other requirements, (i) each of the distributing corporation
and controlled corporation is engaged, immediately after the distribution, in the active
conduct of a trade or business, (ii) each trade or business has been actively conducted
throughout the five-year period ending on the date of the distribution, and (iii) neither
trade or business has been acquired in a transaction in which gain or loss was
recognized, in whole or in part, within the five-year period. Sections 355(b)(1)(A),
355(b)(2)(B), and 355(b)(2)(C).
In determining whether an active trade or business has been conducted by a
corporation throughout the five-year period preceding the distribution, the fact that a
trade or business underwent change during the five-year period (for example, by the
addition of new or the dropping of old products, changes in production capacity, and the

3
like) shall be disregarded, provided that the changes are not of such a character as to
constitute the acquisition of a new or different business. Section 1.355-3(b)(3)(ii). In
particular, if a corporation engaged in the active conduct of one trade or business during
that five-year period purchased, created, or otherwise acquired another trade or
business in the same line of business, then the acquisition of that other business is
ordinarily treated as an expansion of the original business, all of which is treated as
having been actively conducted during that five-year period, unless that purchase,
creation, or other acquisition effects a change of such character as to constitute the
acquisition of a new or different business. Id
.
In Example (8) of § 1.355-3(c), corporation X had owned and operated hardware
stores in several states for four years before purchasing the assets of a hardware store
in State M where X had not previously conducted business. Two years after the
purchase, X transferred the State M store and related business assets to new
subsidiary Y and distributed the Y stock to X’s shareholders. Citing § 1.355-3(b)(3)(i)
and (ii), the example concludes that X and Y both satisfy the requirements of section
355(b).
In this case, because (i) the product of the brand X automobile dealership is
similar to the product of the brand Y automobile dealership, (ii) the business activities
associated with the operation of the brand X automobile dealership (i.e.
, sales and
service) are the same as the business activities associated with the operation of the
brand Y automobile dealership, and (iii) the operation of the brand Y automobile
dealership involves the use of the experience and know-how that D developed in the

4
operation of the brand X automobile dealership, the brand Y automobile dealership is in
the same line of business as the brand X dealership and its acquisition does not
constitute the acquisition of a new or different business under § 1.355-3(b)(3)(ii).
Instead, it constitutes an expansion of D’s existing business. Accordingly, each of D
and C is engaged in the active conduct of a five-year active trade or business
immediately after the distribution.
See
§ 1.355-3(c), Example (8).
HOLDING
The acquisition by D, a brand X automobile dealer, of the brand Y automobile
dealership constitutes an expansion of the brand X business and does not constitute the
acquisition of a new or different business under § 1.355-3(b)(3)(ii).
EFFECT ON OTHER REVENUE RULING
Rev. Rul. 57-190
, 1957-1 C.B. 121, is obsoleted as of January 5, 1989.
DRAFTING INFORMATION
The principal author of this revenue ruling is Lisa S. Dobson of the Office of
Associate Chief Counsel (Corporate). For further information regarding this revenue
ruling contact Ms. Dobson on (202) 622-7790 (not a toll-free call).